Fed may signal slower hikes, stay mum on July
This week’s Federal Reserve meeting is likely to provide little hint about the now remote possibility of a mid-summer interest rate hike, economists say, But it could deliver a more sobering message: Policymakers expect slower growth and lower rates the next few years.
“Faced with continued sluggish growth, little sign of a pickup in productivity” and persistently tepid wage growth, “policymakers are likely to reassess” the longer-term path of rate increases, Morgan Stanley wrote in a report. The research firm expects Fed officials to lower their forecast for the federal funds rate at the end of 2018 to 2.4% from 3%, and to just 3% from 3.3% for the longer-run.
Many investors, however, are likely to focus on the short term this week.
The government’s recent report of paltry average job gains of 80,000 the past two months squashed any chance of a rate increase at the two-day meeting that ends Wednesday. A bump was already in doubt ahead of the British referendum June 23 on whether to withdraw from the European Union because a “yes” vote likely would renew market turbulence. In a speech last week, Fed Chair Janet Yellen largely confirmed that a June move was no longer on the table, calling the jobs data “concerning.”
But she added that she didn’t place too much stock in a single report and portrayed a generally improving labor market that added an average 230,000 jobs a month last year and boasts an unemployment rate below 5%.
As a result, some economists say a July rate hike is still a possibility, if a remote one. Fed fund futures indicate the odds of an increase are 2% next week and 21% in July. Fed policymakers, analysts say, likely want to see two solid employment reports before lifting rates to ensure the labor market is back on track. Still, fresh data early next month that reveal strong job gains in June and big upward revisions in May could prod the Fed to act at a late-July meeting if the U.K. votes to remain in the EU, says Richard Moody, chief economist of Regions Financial.
Yet after the unnerving jobs report, don’t expect the Fed’s statement or Yellen’s news conference to provide clear signals about July other than to reiterate that officials still expect to lift rates gradually over time.
“They want to keep their options open,” Moody says. ”I don’t think they want to touch the timing aspect.”
Feeble first-quarter economic growth will force the Fed to shave its economic growth estimate for 2016 to 1.9% from 2.2%, Morgan Stanley estimates. But with the economy accelerating in the current quarter and monthly job growth expected to return close to 200,000, many economists expect the Fed to continue to forecast two rate increases this year, probably in September and December.
The bigger picture, however, is generating some angst. In recent speeches, Yellen and other Fed policymakers have lamented anemic productivity growth, or output per labor hour, and the mild uptick in wage growth despite the low unemployment rate.
“There is a case that the ’17, ’18 and longer run growth projections could get nudged down,” says economist Michael Feroli of JPMorgan Chase.
Morgan Stanley expects all those forecasts to be lowered to 1.9% from 2%. And it anticipates policymakers will project just three rate hikes in 2017 and 2018.