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The US Federal Reserve’s Federal Open Market Committee (FOMC) began its monetary policy meeting earlier today and will announce its rate decision tomorrow at 19:00 GMT. The FOMC will release its statement together with the quarterly update of its Summary of Economic Projections. This is where all seventeen members of the FOMC (not just the current ten voting members) publish their forecasts for inflation, growth, unemployment and the fed funds rate for 2017 and beyond. Then half an hour later Federal Reserve Chair Janet Yellen will hold a press conference.

Currently the fed funds rate trades within a range of 25-50 basis points. A 25 basis point rise tomorrow would see this lift to 50-75 basis points. According to the CME’s FedWatch Tool the probability of a 25 basis point rate hike tomorrow is just over 95%, down slightly from the 100% it touched a couple of weeks ago.


Source: CME Group

Consequently, the big surprise now for investors would be if the Fed held off from tightening. Just about every comment from Federal Reserve members since the September meeting has served to prepare the markets for a hike. On top of this, recent US economic data releases have done nothing to suggest that the Fed has a reason to delay any longer. Earlier this month the Unemployment Rate fell to 4.6% - it lowest level since the end of 2007 - and well below the 4.9% rate anticipated. In addition, we’ve seen improvements in Manufacturing, Services, Durable Goods, Retail Sales, Consumer Sentiment, Inflation Expectations and GDP growth.

On top of all this there’s the prospect of the additional stimulus from president-elect Trump’s proposed tax cuts, infrastructure spending and bonfire of regulations. As things stand, investors believe all this is about to happen while Trump’s campaign threats to curb immigration and impose tariffs on imports from China and Mexico have been widely ignored. Consequently, it’s easy to see why many investors expect inflation to soar above the Fed’s 2% target. Then there’s the worry that the Fed gets trapped “behind the curve” and feels it has to raise rates further and faster than is currently being priced in.

All eyes will be on the FOMC’s “Dot Plot” in its Summary of Economic Projections. This shows the committee’s predictions for the fed funds rate in 2017 and beyond. Investors will be hoping for a consensus forecast of no more than two 25 basis point hikes next year. Anything more could see investors to reduce their exposure to equities ahead of the year-end. However, there’s not much more on the economic calendar ahead of Trump’s inauguration on 20th January. And investors have now managed to brush aside a number of major “upsets” in 2016, namely the Brexit vote, Trump’s election win and the Italian “no” vote in the referendum. So it now looks as if any pull-back is likely to be shallow as investors are geared up (rightly or wrongly) for an era of big spending and tax cuts.


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Posted by David Morrison

Category: PM Bulletin

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