The Fed lowered its interest rate for a second consecutive time to 1.75%-2%, albeit maintaining a broadly favorable view for the economic outlook
The Fed reduced the Federal Funds Rate (FFR) by 25 bps at its meeting on September 18th to the range of 1.75% - 2%, with 3 out of 10 voters dissenting (two in favor of no change and one in favor of a 50 bp cut). The Fed intends to provide support to the US economy as insurance against ongoing risks stemming from the global growth slowdown (see page 2), trade policy uncertainty and geopolitical factors (Brexit).
Regarding the future path of monetary policy, the Fed sent mixed signals. Specifically, in the post meeting press conference, Chair Powell sounded dovish, arguing in favor of being proactive against downside risks rather than to “hold on to your firepower” for when these risks materialize. In a negative scenario, “a more extensive sequence of rate cuts could be appropriate” than the one envisioned in the Summary of Economic Projections. However, the Federal Open Market Committee (FOMC) appears divided, as by the end of 2019, out of the 17 participants, 7 expect one more reduction in the FFR to a range of 1.5% - 1.75%, 5 anticipate no change and 5 project an increase of 25 bps to a range of 2% - 2.25% (see graph below). The median figure points to an unchanged rate by the end of 2019. Beyond 2019, the median of the FOMC participants’ estimates points to an unchanged rate at the end of 2020, one increase by 25 bps to 2% – 2.25% by the end of 2021 and one further rise to 2.25% - 2.5% by end-2022, matching the FOMC’s longer-term interest rate estimate (the neutral rate).
The FOMC’s forecasts for real GDP were little changed compared with June (slightly high across the forecasting horizon), pointing to still satisfactory levels and a very gradual deceleration for growth towards its potential rate. Indeed, real GDP growth is projected at 2.2% yoy in Q4:2019 (2.5% yoy in Q4:2018), 2% yoy in Q4:2020, 1.9% yoy in Q4:2021 and 1.8% yoy in Q4:2020. Similarly, inflation (PCE measure) estimates were broadly stable, with the FOMC expecting some under-achievement of the 2% goal in the short term, before reaching the target by the end of 2020 and in 2021. Overall, financial markets’ expectations for the future path of the FFR remain more benign compared with the FOMC median projection of circa 50-75 bps (see graph below).
The Bank of Japan (BoJ) remained unchanged on September 19th with the short-term policy rate at -0.1% and yield target of “around 0%” for the 10-year JGB. At the same time, the BoJ sustained market expectations for an upcoming easing, highlighting enhanced downside risks stemming from overseas economies. The BoJ will examine the respective developments at its October 31st meeting, which will also be accompanied by its quarterly Outlook for Economic Activity and Prices (64% probability is priced in for a reduction of 10 bps in the short-term policy rate in October).
The Bank of England (BoE), as expected, on September 19th, remained in a “wait-and-see” mode (0.75%), in anticipation of more clarity regarding the form and timing of Brexit. The BoE dismissed recent positive economic news (July’s GDP and labor market data) and instead deemed that underlying growth has eased as Brexit uncertainties have become more entrenched and due to slower global growth.