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Federal Reserve Monetary Policy

December 13, 2017
By Robert A. Dye, Ph.D., Daniel Sanabria

Fed Raises Fed Funds Rate for Third Time in 2017, Indicates Three More Rate Hikes in 2018

  • The Federal Reserve voted to increase the benchmark fed funds rate range to 1.25-1.50 percent.
  • They raised the median forecast for real GDP growth in 2018 to 2.5 percent.
  • The new Dot Plot remains consistent with three more fed funds rate hikes in 2018.

 

As widely expected, the Federal Open Market Committee voted today to increase the fed funds rate range by 25 basis points to 1.25-1.50 percent. In today’s monetary policy announcement, the FOMC said that economic activity has been rising at a solid rate in the fourth quarter. They acknowledged that core inflation was running below 2 percent, but they expect it to stabilize near the 2 percent objective over the medium term. This is an important issue because the threat of rising inflation is at least a partial justification for ongoing interest rate increases. If core inflation does not increase as the Fed expects, then it will come under pressure to dial back the pace of interest rate increases. The Fed expects that economic conditions will evolve in a manner that will warrant gradual increases in the fed funds rate over time. There were two dissents in today’s vote, one from Chicago Fed President Charlie Evans and the other from Minneapolis Fed President Neel Kashkari, both of whom would have preferred to leave the fed funds rate unchanged at this meeting.

The Fed issued a new set of economic projections. The economic projections call for about 2.5 percent real GDP growth for 2018, higher than the September projections which called for 2.1 percent real GDP growth in 2018. In her press conference, FOMC chairwoman Janet Yellen said that the likelihood of tax reform was a factor in the stronger economic projections. The new set of economic projections also call for a lower unemployment rate for 2018, now expected to be 3.9 percent, lower than the 4.1 percent forecast from September.

The Fed also issued a new dot plot of FOMC member’s expectations for the fed funds rate over time. The new dot plot for 2018 is similar to the last one issued in September. The new dot plot is consistent with three fed funds rate hikes in 2018 and three more in 2019.

Yellen held her last press conference as chairwoman of the FOMC after the release of the policy announcement. She fielded questions about the impact of tax reform and on lower-than-expected wage growth, among others. She was praised as an inspiration to female economists over the last several years.

Today’s bundle of data and expectations from the Federal Reserve must be considered in light of the extensive turnover in leadership at the Fed expected over the next six months. Current Board of Governors member Jay Powell is expected to receive Senate confirmation to be the next FOMC chairman. Marvin Goodfriend from Carnegie Mellon University has been nominated by President Trump to fill a BOG seat, leaving three other BOG seats open, including the position of Vice Chair. Also, Bill Dudley, President of the Federal Reserve Bank of New York, has announced that he will retire by next summer.

According to the CME Group, the implied odds of a January 31 fed funds rate hike are 15 percent. The cumulative odds of a March 21 fed funds rate hike are higher at 59.1 percent.

Market Reaction: U.S. equity prices climbed through the Fed news. The 10-year Treasury yield decreased after 2 pm eastern time from about 2.38 percent to about 2.35 percent. NYMEX crude oil fell to $56.65/barrel as the dollar eased. Natural gas futures steadied at about to $2.70/mmbtu.

For a PDF version of this report click here: FOMC_12132017.

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