Fed Says Economy Is Good, But Concerned About Potential for Inflation
- The Minutes of the FOMC Meeting of January 30/31 showed a positive view on the U.S. economy.
- Existing Home Sales for January fell by 3.2 percent, to a 5,380,000 unit annual rate.
This afternoon, the Federal Reserve released the minutes of the January 30/31 FOMC meeting. The tone of the minutes was generally upbeat about the U.S. economy. Most FOMC members expected ongoing positive economic conditions in early 2018. Some members noted that the positive impacts of tax reform might be somewhat larger in the near term than previously thought. Some members reported that businesses in their districts planned to increase capital investment this year. There was a good amount of discussion in the minutes on inflation, both from the staff analysis, which included a review of several frameworks for forecasting inflation, and from voting members. Most of the discussion centered on the theme that there was potential for more inflation, especially as labor markets continue to tighten. However, it was noted that most readings of core inflation remain at or below the Fed’s symmetric 2-percent inflation target.
There was nothing in the minutes to suggest that the FOMC was deviating away from the expected three fed funds rate hikes this year. However, the assessment of economic and financial market conditions in the minutes are a backwards look. They do not take into account the new Federal budget agreement, nor do they include the recent increase in financial market volatility. Also, the FOMC meeting of January 30/31 occurred before the January employment data was released, which showed a notable increase in wages.
We continue to expect to see a fed funds rate hike announced at the conclusion of the upcoming March 20/21 FOMC meeting. According to the fed funds futures markets, the implied probability of a March 21 rate hike is about 78 percent. Importantly, the FOMC will be issuing a new “dot plot” and a new set of economic projections at the upcoming March FOMC meeting. This will be the first opportunity for the new chairman, Jay Powell, to put his stamp on the meeting. Powell is scheduled to deliver the semiannual “Humphrey Hawkins” testimony to Congress next Wednesday and Thursday, February 28/March 1.
Our view is that there is some upside risk to the three rate hikes implied for 2018 in the dot plot from December 2017. Four rate hikes would keep a consistent every-other-meeting pace this year and may be appropriate given all the focus on higher wages and inflation.
Existing home sales for January decreased by 3.2 percent, to a 5,380,000 unit annual rate, following a decrease in December. The housing market remains very tight. The months’ supply of existing homes for sale in January ticked up slightly, to a still-low 3.4 months. The median sales price of an existing home was up by 5.8 percent in January, over the previous 12 months. Monetary tightening by the Federal Reserve has already pushed mortgage rates up. The 30-year-fixed mortgage is up to 4.64 percent for the week ending February 16, according to the Mortgage Bankers Association. Further increases in mortgage rates this year, due primarily to further increases in the fed funds rate and oversupply in the Treasury bond market, is a downside risk factor for housing markets. First-time buyers are vulnerable to a decline in housing affordability as prices increase and mortgage rates go up.
Market Reaction: U.S. equity prices climbed with the release of the Fed minutes, then dropped. The 10-year Treasury yield is up to 2.93 percent. NYMEX crude oil is down to $61.08/barrel. Natural gas futures are up to $2.67/mmbtu.
For a PDF version of this report click here: FOMC_02212018.
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