Markets to Fed: Cleared for take-off – Standard Chartered

Following explicit signals, including from Chair Yellen in her most recent speech, Thomas Costerg, Senior Economist at Standard Chartered, expects the Federal Reserve (Fed) to hike the policy rate another 25bps on 15 March.

Key Quotes

“The February employment report bolsters the case, showing broad-based economic health. Still, we think the main reason for the rate hike is buoyant financial markets and solid US business surveys. The decision to hike rates was probably taken already, before the employment report.”

“Market expectations for the rate-hiking trajectory have coalesced towards the Fed’s view of three rate hikes this year, as the December Fed dot plot (forecasts) signalled. We expect the dot plot to still show three hikes this year (and still three next year), not four, despite the ongoing sense of optimism. First, there is perhaps no need to surprise markets and introduce unnecessary volatility. Second, underlying concerns likely remain, including mixed hard data related to Q1 GDP, and subdued core inflation. Third, the Fed probably wants to avoid appearing ‘behind the curve’, a criticism increasingly circulating among financial-market participants.”

“There could be a discussion about the end of the reinvestment of the QE portfolio. We expect this decision to remain high-level, with the debate a work in progress. We think the Fed will not end QE reinvestment until Q1-2018, although the risk is that it could be terminated earlier. Still, we expect Yellen to prioritise rate hikes over the balance sheet in the near term. We do not expect signals about the timing of the next rate hike or about QE reinvestment in the statement.”

“We expect the interest rate on excess reserves to be 2.0% by end-2018. We still see the Fed struggling to raise rates above 2.0% given the high debt level in the economy, and the late stage of the business cycle, even if President Trump’s Fed appointments give a more hawkish direction to the Federal Open Market Committee.”