After its two-day policy meeting,
the Federal Reserve raised its benchmark interest rate, the third time in
six months, stuck to its forecast of one more hike this year and laid out plans
to unwind its balance sheet.
The Federal Open Market Committee
(FOMC) voted to raise the range of the federal funds rate to 1.00% and 1.25%,
citing mixed economic data.
“In view of realized and expected
labor market conditions and inflation, the Committee decided to raise…the fed
funds rate,” the central bank wrote in its statement.
One member of the committee,
Minneapolis Fed President Neel Kashkari, voted against the decision, preferring
to keep the federal funds rate between 0.75% and 1.00%. In March, Kashkari was
also the lone dissenter to raising rates.
Unwinding the balance sheet
The Fed also described its plans
to wind down its $4.5 trillion balance sheet, which it expects to begin this
year. The program, in which the Fed would gradually reduce its holdings of
Treasuries and agency securities, will decrease the Fed’s reinvestment of
principal payments. Payments will only be reinvested when they exceed gradually
rising caps of $6 billion per month for Treasuries and $4 billion per month for
agency debt and MBS.
“The Committee currently
anticipates reducing the quantity of supply of reserve balances, over time, to
a level appreciably below that seen in recent years but larger than before the
financial crisis; the level will reflect the banking system’s demand for
reserve balances,” the Fed wrote in an addendum to its statement. The
unprecedented size of the Fed’s balance sheet is a lingering a result of the
extraordinary easing measures it took in response to the financial crisis.
Economic projections
The Fed’s cautious, yet generally
positive, economic statement follows a slew of weak data, including
disappointing first quarter GDP, soft inflation numbers and less-than-expected
payroll gains.
Unemployment has hovered just
below 5% for the past year, a level many economists consider to be near full
employment. However, while the unemployment rate sank to 4.3% in May, its
lowest level in over a decade, non-farm payrolls grew by a disappointing 138,000.
“Job gains have moderated but
have been solid, on average, since the beginning of the year, and the
unemployment rate has declined,” the central bank wrote in its statement.
“Household spending has picked up in recent months, and business fixed investment
has continued to expand.”
Meanwhile, recent inflation
readings have continued to run below the Fed’s 2% target. The Fed’s preferred
measure of price inflation, the core Personal Consumption Expenditures index,
fell to 1.5% year-over-year in April, its lowest level in months. Another
measure of inflation, the Consumer Price Index, dipped to 1.9% year-over-year
in May. The Fed noted that “inflation on a 12 month basis is expected to remain
somewhat below 2 percent in the near term but to stabilize around the
Committee’s 2 percent objective over the medium term.”
The Fed also reiterated its
balance of risks statement, noting, “near-term risks to the economic outlook
appear roughly balanced,” meaning that the economy is no more likely to
surprise to the downside than the upside.
Fed projections and dot plots
The Fed’s expectations for GDP
growth increased slightly to 2.2% in 2017, while forecasts for unemployment
dropped across the board, with officials expecting the rate to hit 4.6% in the
long-run. Officials also reduced their short-term outlook for core PCE
inflation to 1.7% this year.
Despite recent departures of
several Fed officials, projections for the total number of expected rate hikes
in 2017 remained unchanged with one more quarter-point raise this year.
Officials also forecast three
rate hikes in 2018, with the rate reaching 2.9% in 2019, just below its
long-run goal of 3.0%.
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