A 25 basis-point Fed hike is fully priced in, and strong US economic data already bolster the case for more hikes in 2017 says Franck Dixmier. However, any projections for next year don't reflect Trump’s as yet unimplemented economic policies.
by Franck Dixmier, Allianz Global Investors
On December 14, we expect the Federal Open Market Committee (FOMC) to announce a 25-basis-point increase in its fed funds rate. Markets already attribute a 100% probability to this move and, as such, it is fully priced in.
In its subsequent communications, the Fed will likely highlight the outlook for US inflation as an important factor to watch. While the central bank should acknowledge that the US dollar’s recent strength is tantamount to an implicit tightening of monetary conditions, this will be countered by upwardly trending salaries, oil prices and inflation expectations. This combination should validate the Fed’s scenario of rising core inflation and thus could justify additional rate hikes in 2017.
The question then arises as to how the Fed can respond to the prospect of rising inflation next year.
The FOMC’s new fed funds rates projections (the famous “dot plots”) will, despite their historically low reliability, be closely studied and could give a first indication of what the Fed will do next. However, we have to recognize that even with upward revisions, the last two years have shown just how little influence these projections have on markets, which have remained agnostic about the prospect of rising interest rates.
To this must be added the policy unknowns arising from the incoming administration of President-elect Donald Trump. In communicating its inflation and growth forecasts, the Fed cannot let itself incorporate what, to date, have been little more than pronouncements from Trump about his future economic policy. The central bank’s expectations in this area can only be reviewed appropriately once Trump’s actual program has effectively been implemented.
In this context, it is likely that Fed Chair Janet Yellen’s announcement this week will only have a marginal impact on markets.
The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Forecasts and estimates have certain inherent limitations, and are not intended to be relied upon as advice or interpreted as a recommendation.
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