It took less than two days last week for the financial markets to disabuse themselves of the notion that the Federal Reserve, this time, is really, truly, absolutely kind of serious about raising interest rates at its next meeting in September.
On Wednesday afternoon the Fed, as expected, left interest rates unchanged for the fifth straight monetary policy meeting since first raising rates last December, which was supposed to usher in a gradual process of rate “normalization” this year. As we know, of course, the Fed hasn’t followed through on that, finding one justification after another – rising oil prices, falling oil prices, weak Chinese economic growth, weak U.S. economic growth, Brexit, you name it – to delay the day of reckoning.
In last week’s post-meeting announcement, the Fed dropped several hints that might cause some people, even reasonable ones, to conclude that a rate increase might be in the offing at its next meeting in September.
“Near-term risks to the economic outlook have diminished,” the statement said, adding that “job gains were strong in June following weak growth in May” and “household spending has been growing strongly.”
Yet, that relatively upbeat outlook wasn’t enough to convince nine of the 10 voting members to vote for a rate increase now. Only Kansas City Fed President Esther L. George voted for a rate hike, as she has done several times recently.
But no sooner did the Fed make that statement than Friday’s second-quarter GDP report blew the idea of a September increase apart. Growth came in at an unexpectedly weak 1.2% annual rate, well below the consensus forecast of 2.6% and only slightly better than the pace in the first quarter, which was downwardly revised to 0.8%. The economy has now grown at less than a 2% pace for three straight quarters, below the Fed’s own 2% estimate.
In the bond market, yields on long-term Treasury securities fell by double digits as traders now seem to have come back to their earlier belief that no rate increase is coming before the November presidential election, and maybe not until sometime next year.
With the benefit of hindsight, one could certainly view the Fed’s caution as justified given the subsequent GDP report. But then why make the statement that “near-term risks to the economic outlook have diminished” when clearly they haven’t? This raises the question yet again: How did the Fed not know in advance what the GDP report, scheduled for release just two days hence, was going to say?
This reminds me of what happened following the release of the lousy May jobs report. Remember that?
The Labor Department took just about everyone – including the members of the Fed – by surprise when it reported the worst monthly employment gain in nearly six years. That had been preceded by comments from numerous Fed members, from Janet Yellen on down, that the economy was doing so well that a rate increase was likely before the end of the summer.
I supposed it’s remotely possible that the Fed is subject to the same news embargo on government economic reports as the rest of us to respect its independence, but doesn’t it have its own trove of economic data that would have shown the same thing? This just makes the Fed look ridiculous and incompetent. Why go out and tell the markets that things are looking brighter when just two days later we’ll find out they’re not?
On Friday, San Francisco Fed President John Williams told the markets not to get too caught up in the headline GDP number and that the Fed might very well raise interest rates—not once but twice! —before the end of the year, noting that some of the underlying data in the report “look good” and that lots more data will be released in the coming weeks and months.
“There is definitely a data stream that could come through in the next couple of months that I would think would be supportive of two rate increases,” Williams said. But then, as a true Fed official, he hedged his bets. “There's data we could get that wouldn't be supportive of that and it could be supportive of one maybe, or of none,” he added.
Translation: Who knows? Williams doesn’t have a vote on the FOMC this year.
I know it’s early and that second quarter GDP will go through a couple of revisions before then, not to mention lots more economic data will be released, including this Friday’s July jobs report. But it’s asking a lot to believe that the Fed will resume normalization any time this year, never mind before the end of the summer: The next FOMC meeting ends on September 21, which is also coincidentally the last day of the season.
The meeting after that takes place just one week before the election, so we can pretty much bank that nothing will happen then. Which leaves just one more meeting in mid-December before the end of the year. Will the Fed mark the anniversary of its last rate increase with another one?
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INO.com Contributor - Fed & Interest Rates
Disclosure: This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.