In July 2008, just as the public’s knowledge of the impending mortgage disaster in the U.S was becoming widespread, the federal funds rate was 5.25%. Six months later, it was essentially zero. The U.S. Fed was so concerned about a recession turning into a 1920s style depression, it took the extraordinary step of reducing the cost of borrowing among banks to almost nothing.
As expected, the Federal Open Market Committee (FOMC) announced another 25bps increase to the target range, taking the range to 1.25% to 1.50%. The decision was a reflection of the FOMC’s strategy of “gradual removal of monetary policy accommodation” in light of “solid” GDP growth and a “strong” labour market.
According to projections of FOMC members, there are more rate rises to come. These projections, often referred to as the “dot plots” (because each member’s forecast is represented by a dot plotted over time on a diagram), imply the FOMC expects three rate rises in 2018, taking the federal funds rate range to 2.00%-2.25% by the end of 2018. Another two 25bps rate rises are then expected for 2019.
The decision to raise the rate was not a surprise as cash futures markets had factored an increase into prices for several weeks. Even so, markets reacted by sending the USD and yields lower as the FOMC’s growth and inflation projections were interpreted as being on the “dovish” side. The decision also came on the same day as lower-than-expected core inflation figures were released. At the end of the day, the USD was around 0.5%-1.0% weaker against other major currencies, the 2 year bond yield fell 5bps to 1.77% and the 10 year yield fell 7bps to 2.34%.
Westpac’s Richard Franulovich said, “Overall the Fed made a couple optimistic tweaks here and there but otherwise delivered a steady policy message, understandable given the imminent handover to Powell. Yellen reiterated that recent inflation softness is likely transitory and as such policy will continue to normalise gradually.”