The Federal Open Market Committee (FOMC) of the Federal Reserve (Fed) did nothing at its January 31 meeting; however, Federal Funds futures are signaling as many as three rate hikes are probable in 2018. In this report, we take another perspective, and explain which are the least probable FOMC meetings for a rate hike. Our analysis suggests that the FOMC meetings ending on Wednesday, May 2, 2018, and Thursday, November 8, 2018, are unlikely to see rate hikes; and the summer vacation meeting on Wednesday, August 1, 2018, is not far behind as a snoozer. Here is the full story.
Expectations are running high at a 77.5% probability as of February 2, 2018, based on the CME FedWatch Tool, that the FOMC meeting on Wednesday, March 21, 2018 will see a hike in rates. The expectation is that the target zone for the effective Federal Funds rate would move to 1.50% to 1.75% in March, which takes the May 2 meeting out of the running.
By way of background, the Fed has provided very strong guidance that it believes the 17-step approach, one 25-basis point rate hike every meeting, to raising rates taken by then Fed Chair Alan Greenspan from end-June 2004 through end-June 2006, was a mistake. The Fed was intent on an incremental rate rise from 1% to over 5%. The view now, in hindsight, is that the Fed was not adequately taking the pulse of the markets to assess if the end target was still correct or the pace too fast. The Yellen-Fed was, and now the Powell-Fed appears to be, committed to a slow pace of rate hikes with regularly re-evaluation based on new data on the economy, inflation, and market behavior. The Fed is on the hike, then skip at least one meeting, and then (maybe) hike again approach. So, if the Fed goes ahead and raises rates at the March meeting, the next FOMC meeting is likely to see no action.
As of February 2, however, there was a meaningful probability of 22.5% that the Fed would do nothing at the March 21 FOMC meeting. Our view is that if the Fed decides to postpone the rate hike that is widely expected to happen on March 21, then nothing still happens on May 2.
The type of information or news that would cause the FOMC not to raise rates at its March meeting would have to be very serious, such as a huge drop in global stock markets (i.e., such as August 2015). The drop in stock markets is a reasonable fear. The S&P500® lost about 4% the week of January 29 through February 2, and many observers think a correction is long overdue. For the FOMC to postpone its well-guided rate hike, they would probably need to see at least a 20% bear market type of correction and no bounce back before the March 21 meeting. If the correction occurred and stocks were already bouncing back, there is a good likelihood the FOMC goes ahead with the rate hike in March. If the stock market has fallen through -20% and still headed lower, then FOMC would probably delay – but not for just for one meeting, but for several meetings to see if there were material changes in the pattern of unemployment or inflation data.
Another scenario discussed that could cause the FOMC to wait and see would be a U.S. federal government shutdown over the debt ceiling lasting longer than a month. The appetite from the Senate and House of Representatives for a shutdown was dampened considerably after the three-day experiment in early January. So, we put the odds on a shutdown lasting a month or more at under 1%. And if a long shutdown did happen, the FOMC would postpone for several meetings, not just one. Thus, the May 2 FOMC meeting remains an exceedingly low probability for a rate hike, regardless of what happens at the March FOMC meeting.
Typically, the seventh FOMC meeting of the calendar year is held at the end of October, or in this case it would have been held on October 31. Aside from possibly not wanting to meet on Halloween, the Fed decided to delay this FOMC meeting a week from its typical pattern so it could observe and digest the U.S. Congressional elections on Tuesday, November 6. Let’s face it; there was virtually no chance that the FOMC would have made a rate move in the week before these highly controversial and polarizing elections. Nor is it at all likely the FOMC will take any action two days after the elections. Just like everyone else, the FOMC members and observers are more than likely going to sit around their big table and pontificate on the meaning of the election results. But, they are not going to take any action until they can see how markets digest the election results over the rest of the month and into December.
The Fed Board, FOMC members, the Fed staff, yes, they take vacations, too; and actions at the end-July (or early August FOMC meeting) are extremely rare. Fed Chair Greenspan did it in 2005, as part of his 17-step march higher, but as we have already noted the current Fed thinks that approach was a mistake. Even more important than vacation schedules is the July testimony of the Fed Chair before Congress as part of the Humphrey-Hawkins mandate. The Fed strongly prefers to take any action ahead of its mandated Congressional testimony so that it does not have to “speculate” about what it might do a week or two later. This logic applies whether or not the FOMC decides to hike rates at the end-June FOMC meeting or not. If they had good reason to skip June, they will skip August, too.
As of February 2, the CME FedWatch Tool is suggesting that the FOMC meetings of March 21, June 13, and December 19, are the three FOMC meetings favored with 50% or greater probabilities for rate hikes. If the FOMC was going to sneak a fourth rate hike into 2018, the most likely venue is the September 26 meeting – following the hike one, skip one approach to monetary policy. We would note that a hike at the September FOMC meeting would probably require two things from the economic data.
First, the U.S. core rate of inflation (excluding food and energy) would need to have moved decisively above a 2% year-over-year pace by the time of the FOMC meeting. The concept here is that Fed is intent on moving to a neutral interest rate policy, and the Fed has signaled that the definition of neutral is that the Federal Funds rate target range brackets the prevailing core rate of inflation. So, if the Fed has hiked at both the March and June meetings, the prevailing target range will be 1.75% to 2.00% heading into the September FOMC meeting. A core inflation reading above 2% would then give the green light to a rate hike.
There is one caveat, though. The unemployment rate needs to stay very low, say below 4.5%. A material move upward in the unemployment rate would give the FOMC serious pause regardless of the pace of inflation. If the unemployment rate is bouncing around a few tenths of a percent, that could be shrugged off, but not a move above 4.5%, as that might suggest a higher trend and worthy of a wait and see approach to rate hikes.
Federal Funds futures probabilities suggest:
All examples in this report are hypothetical interpretations of situations and are used for explanation purposes only. The views in this report reflect solely those of the author(s) and not necessarily those of CME Group or its affiliated institutions. This report and the information herein should not be considered investment advice or the results of actual market experience.
Bluford “Blu” Putnam has served as Managing Director and Chief Economist of CME Group since May 2011. With more than 35 years of experience in the financial services industry and concentrations in central banking, investment research, and portfolio management, Blu serves as CME Group’s spokesperson on global economic conditions.
View more reports from Blu Putnam, Managing Director and Chief Economist of CME Group.
An intense debate is building over the number of times the Fed might raise interest rates this year -- is it going to be two, three, or even four? Get the pulse of market expectations with the CME FedWatch Tool&