Minutes of July’s Federal Reserve Open Markets Committee (FOMC) were released last week and indicated that it is torn between a rate hike in September or waiting further for confirming data. Westpac said the minutes showed a leaning towards a rate hike by the Fed but more evidence of inflation moving back towards 2% and economic growth would be required before a move was made. The bank also noted the downgrading by Federal Reserve staff of its internal inflation outlook. According to the minutes, “some participants expressed the view that the incoming information had not yet provided grounds for reasonable confidence that inflation would move back to 2 percent over the medium term.” However, the meeting itself was held before an upward revision to first quarter GDP figures, a solid second quarter GDP figure and a July unemployment rate described as being close to full employment. Westpac said this new information was the evidence required by Fed board members. ANZ was not quite as confident saying, “Given that commodity prices have fallen further since the FOMC meeting, it is a fair assessment by the market that the odds of rates being lifted next month is not as high as it was.” CBA believes December is the most likely timing for a move but it was not as positive as market pricing was suggesting.
As for the Federal Reserve holdings of Treasury bonds and mortgage backed securities, the minutes indicated no particular hurry to offload them back to the private sector. The holdings will be maintained as interest rates in the US rise until at least the early stages of the rate rising cycle. Currently, as the US central bank’s holdings of bonds mature, the redemption proceeds are reinvested back into the purchase of more securities in the US bond markets, thus maintaining downward pressure on market interest rates. The reinvestment policy would remain until the FOMC thought economic conditions allowed.
Benchmark US 10y rates fell about 6bps on the day, finishing at 2.14% while the US dollar dropped against major currencies.