As discussed earlier in our big-picture preview of tomorrow’s FOMC meeting (see “Is The Fed As Hawked Up As The Market?”), the FOMC is expected to leave the fed funds rate target unchanged at 0-0.25%, although all the focus will be on the pace of its asset purchase tapering.
As Newsquawk summarizes, Fed officials have recently argued that there is a case to “turbo taper”, i.e., to accelerate the pace from the current $15bln/month ($10bln of Treasury’s, $5bln of MBS), which on the current trajectory, would see purchases conclude in June 2022. However, hot inflation prints, which has seen the Fed retire the ‘transitory’ description, as well as signs of a strong jobs market recovery, have bolstered the case for an acceleration.
Some expect the Fed will double the pace of the taper to $30bln/month (or just below that, at $25BN), which would then see asset purchases conclude in March/April. Meanwhile, the statement will be eyed for any commentary on Omicron, which the central bank will likely acknowledge is a risk, but not something that would at this stage compel it to adjust its policy course.
Meanwhile, the term “transitory” will presumably be removed given Powell said it is now time to retire the description.
SGH Macro believes that there will be a noticeable change in the expressed reaction function and narrative, arguing that the Fed will shift from “supporting the labor market requires patient policy” to “supporting the labor market requires maintaining price stability.” SGH said this leaves balances of risks on the side of inflationary outcomes, with the Fed more likely to react to higher-than-expected pressures, as it has shown already leading into the confab.
“This is what creates the risk of a March rate hike, assuming the data holds on the current trends of strong demand growth, rapidly falling unemployment, and unacceptably high inflation,” SGH concludes. The Fed will also publish update its Summary of Economic Projections, with much focus on the rate hike forecasts (which currently see one rate hike in 2022, with a 50/50 chance of another – lagging behind the market’s current view of two hikes with risks of a third); inflation forecasts are likely to be raised in the short term, but are still expected to show a decline into 2023 – the Fed chair recently told lawmakers that he expects price pressures to ease significantly next year.
Labor market forecasts should be revised positively, especially after the encouraging drop in unemployment in November (4.2% from 4.6%), alongside more encouraging slack measures. Powell in November said it was possible the US could achieve maximum employment by the middle of 2022. With tapering now expected to be concluded sooner than previously though, officials have argued this will give the Committee more optionality on rate hikes. SGH said that “a natural interpretation of this would be rate hikes in June and December,” though its economists acknowledge risks of a hike as soon as March, although this is not likely to be reflected in the dot plot.
“Accelerating the taper only increases the optionally to hike before June, it doesn’t guarantee such a hike.” A recent Reuters survey revealed economists expect the Fed to raise rates by 25bps in Q3 of 2022, but 30 of 36 surveyed felt there was a risk that the first-rate hike comes earlier than expected.
In its latest FOMC preview, Goldman (like Morgan Stanley) expects the Fed to double the pace of tapering to $30BN per month, and believes that the dots will show 2 hikes in 2022, 3 in 2023, and 4 in 2024, for a total of 9 (vs. 0.5 / 3 / 3 and a total of 6.5 in September).
For its part Goldman, expects the FOMC to deliver rate hikes next year in May, July, and November (vs. June, September, and December previously) and another 4 in 2023 and 2024 (spread evenly 2 and 2), for a total of 7 rate hikes through the end of 2024. This is, to put it mildly, laughable, as we will have a full-blown market crash long before any of this happens but we can go with it for now.
Finally, this is what Goldman expects the Fed’s redline statement to look like tomorrow.
