The Fed is running low on patience

As expected, the Federal Reserve opted to leave rates unchanged in a range of 2.25-2.50 percent in Wednesday’s policy announcement. Although, also as predicted, the Fed offered a noticeably softer tone in the statement, opening the door for a potential rate cut in the coming months.

Removing the long-standing use of “patient,” the statement reiterated the committee’s data-dependent position. While a far cry from a commitment to a rate cut within months, let alone weeks, the more dovish-leaning sentiment suggests an increased willingness to increase policy accommodation should growth and inflation continue to disappoint. 

Downgrading the characterization of topline growth from “solid” in May to “moderate” in this week’s communication, officials also noted the imbalance in the data as “growth of household spending appears to have picked up from earlier in the year,” while indicators of business fixed investment “have been soft.”

The statement also repeated that the labor market “remains strong.” Aside from uneven domestic fundamentals, however, the committee furthermore underscored the mounting level of uncertainty stemming from international policy and geopolitical issues.  

“Uncertainties about this outlook have increased,” the June Federal Open Market Committee (FOMC) statement read. “In light of these uncertainties and muted inflation pressures, the Committee will closely monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion.”

The FOMC vote was not unanimous; St. Louis Fed President James Bullard dissented in favor of a quarter-point rate cut. Bullard’s dissent marks the first of Powell’s tenure as chairman.

Furthermore, Bullard and a number of other more dovish-leaning members of the committee represent a growing faction increasingly skeptical of a perpetual expansion as well as a longstanding forecast for inflation to reverse course back toward the committee’s longer-run objective of 2 percent.

As Vice Chairman Richard Clarida has pointed out in earlier comments this month, inflation has failed to reach the committee’s target for the better part of the past decade. Yet, many members remain optimistic, as they always do, that inflation will reverse course back to 2 percent. 

Thus, as expected, policymakers were starkly divided in regard to the expected pathway for rates — and the economy — going forward. Eight of the 17 members now anticipate at least one rate cut by the end of the year, a clear contrast to the March dot plot, which showed no committee members anticipating a rate cut in the coming year.

Another eight members see rates remaining unchanged in 2019, and still one member continues to forecast a rate hike. According to the updated quarterly forecasts as displayed in the dot plot, the median forecast for rates remained at 2.375 percent in 2019 but fell from 2.625 percent to 2.125 percent in 2020.

Other specifics from the Summary of Economic Projections showed slight downward adjustments to the committee’s forecast for inflation and unemployment, while expectations for top-line growth pushed slightly higher.

The median projection for 2019 GDP growth was unchanged at 2.1 percent and revised up by one-tenth of a percentage point to 2 percent in 2020. The 2021 forecast was unchanged at 1.8 percent.

The median unemployment rate forecasts for 2019-21 were all lowered by a tenth of a percentage point to 3.6 percent, 3.7 percent and 3.8 percent, respectively.

Inflation forecasts, meanwhile, were revised down from 1.8 percent to 1.5 percent for the current year. By 2020, headline and core inflation (prices excluding energy and food) are both projected to rise 1.9 percent, just shy of the committee’s target.

Bottom line    

As expected, the Fed opted to keep rates unchanged in June while at the same time softening the tone of the statement to signal an increased willingness to increase accommodation, if needed.

While still relatively positive on the domestic front, the committee increasingly pointed to growing uncertainty stemming from conditions abroad, particularly international trade relations. 

For some time, the market — via a partially inverted yield curve — has been calling for a rate cut, if not two, in short order, growing the divide between market expectations and expectations of policymakers.

While falling short of cowing to market — or political — pressures to cut rates just yet, the removal of “patient” from the statement coupled with a downward revision to a number of “dots” suggest at least an acknowledgment of the weakness bubbling underneath the surface, supporting the notion that policy has moved beyond neutral and has become restrictive.  

Up until now, the Fed has been relatively firm in its opposition to a potential rate reduction with policy still seen as appropriate. With the Fed increasingly digging in its heels, such stubbornness had market participants concerned the Fed would be willing to force the economy into recession before taking action.

The June statement, however, should offer a welcome reprieve, as the committee has clearly indicated an increased readiness to take action to support growth and inflation.

That being stated, without a clear calendar-specific guideline and quantitative tightening still underway behind the scenes as the committee unwinds the balance sheet, the Fed is likely to take in another month or two — or more — of data before moving forward with a policy adjustment.

Remember, monetary policy is made and adjusted to support growth and inflation in the longer-run, it is not intended to soften the day-to-day volatility stemming from political rhetoric or market unease.

With policy projections still relatively positive, the Fed is no doubt ready and willing to take action, but policymakers may not yet read the same sense of immediacy as the market.  

Lindsey Piegza is the chief economist and managing director at Stifel Financial Corp.