On Wednesday, 14 June, the Fed FOMC will wrap up a 2-day meeting with a decision on the federal funds rate. The current projection vis-à-vis interest rate hikes indicate a 91.2% probability of a 25-basis point rate hike. A week ago (May 30, 2017) the probability of a rate hike was 92.3%. Regardless, the numbers indicate that the Fed will act decisively for the fourth time since the global financial crisis of 2009. This will raise the FFR to 1.00% – 1.25%.
It should be borne in mind that the ramifications of a Fed rate hike have already been priced into the financial markets. Novices may be expecting a bump in the USD, or Wall Street bourses with the announcement of a rate hike, but this is unlikely to take place. Rather, we will see modest movements in the USD, the gold price, and other dollar-denominated commodities.
Lackluster US Economic Data Unlikely to Faze the Fed
US financial market performance has best been described as benign in recent weeks. On Friday, 2 June 2017, disappointing NFP data was released. According to the numbers, some 185,000 jobs were expected, but only 138,000 jobs were created. On a positive note, the Labor Department reported a decrease in the unemployment rate to 4.3%, from 4.4% a month earlier. The good news from the macroeconomic perspective of the US economy is that this data does not alter the trajectory of the Fed’s monetary objectives.
Recall that the Fed’s overarching objectives are price stability and full employment. With the unemployment level currently at 4.3% and the US economy slowly on track to reaching its 2% inflation objective, there is no reason to hold back on monetary tightening. US labor market conditions remain tight and it is increasingly difficult to fill vacancies. The current NFP data is certainly not the worst increase in the past 12 months – it ranks in the fourth position.
The biggest increases in job creation came with health care (24,000), professional & business services (38,000), bars and restaurants (38,000), and mining (7000). Sharp declines in government jobs (9000) and retail jobs (6100) took place. In Q1 2017, US gross domestic product increased at a rate of 1.2%, and there are hopes that Q2 2017 growth will be more robust. The Fed is keenly eyeing the rate of increase in real wages. These appear to have stagnated in recent months, but a slowdown in inflation could also put a wrench in the works.
The 25-basis point rate hike is marginal enough not to adversely impact financial markets but sufficient to send a clear signal that the era of quantitative easing is behind us and monetary tightening is well underway. While a June rate hike may come to pass, there is growing doubt about any further rate hikes in 2017. The Fed needs to back up its rate hikes with quantifiable data showing increases in inflation.
Fed targeting FFR of 3%
Leading binary options expert, Charles F. Salinger stated, ‘With the core inflation rate 0.5% beneath the Fed’s target range, there are naturally some doubts about monetary tightening. Nonetheless, the markets remain supportive of growth, and that’s precisely why we are likely to see an increase in interest rates. Since asset prices are rising, it makes sense that the Fed would consider a rate hike as early as June. In the absence of fiscal stimulus, economic growth is entrusted to the Fed. The USD has clearly retreated as Trump’s plan has been bogged down by the House.’
Simply put, markets are far more accommodating of a rate hike in June than they have been in recent years. The US economy is robust, and there aren’t any real concerns about the fundamental strength of financial markets. The Fed’s balance sheet is swollen at $4.5 trillion, and a massive selloff needs to take place to shrink the assets under its control. If the FFR moves towards its target range of approximately 2% – 3%, this will be possible with at least 2 rate hikes per year for the next 2 to 3 years.