Washington, D. C., USA: The Federal Open Market Committee, FOMC, left interest rates unchanged and stayed on course for a December hike as strong economic growth, higher tariffs and rising wages look set to spur inflation.
The central bank said “economic activity has been rising at a strong rate” and job gains “have been strong,” acknowledging a drop in the unemployment rate, while repeating its outlook for “further gradual” rate increases in its statement Thursday following a two-day meeting in Washington.
Risks to the outlook appear “roughly balanced,” the Federal Open Market Committee said, leaving that language unchanged from the prior meeting in late September. Inflation expectations, which have slipped slightly in recent weeks according to some measures, were described as “little changed, on balance,” the same as in the last statement.
By keeping the door open to a fourth 2018 hike in December, officials are sticking to their gradual upward path, trying to prolong the second-longest U.S. expansion on record without making an error. Leaving monetary policy too loose risks stoking excess inflation and asset bubbles, while tightening too fast could cause a recession.
The unanimous 9-0 decision left the benchmark federal funds rate in a target range of 2 percent to 2.25 percent, following eight quarter-point hikes since late 2015. The interest rate the Fed pays banks on excess reserves — a tool for keeping the effective funds rate within the Fed’s target range — was left unchanged at 2.2 percent, as expected.
In one of the only other tweaks to the statement, the FOMC said growth in business fixed investment has “moderated from its rapid pace earlier in the year,” compared with the previous assessment that it has “grown strongly.” Third-quarter data showed non-residential investment increased at the slowest pace in almost two years.
Meanwhile, household spending “has continued to grow strongly,” the Fed said, echoing its previous assessment of consumption, which accounts for about 70 percent of the economy.
With three rate increases so far in 2018, Chairman Jerome Powell and colleagues are feeling their way toward a more normal policy setting after years of extraordinary stimulus.
The tightening cycle may be crimping some segments of the economy. U.S. stocks suffered their steepest losses last month since 2011 in part because of concern the Fed could slow the economy too much. Sales of previously-owned homes were down 4.1 percent in September from a year earlier, and the cost of a 30- year fixed mortgage hit an eight-year high last week.
The task of getting policy right is also complicated by harsher political scrutiny. President Donald Trump criticized past rate shifts and blamed the Fed for the market meltdown in advance of this week’s midterm elections, which delivered control of the House of Representatives to Democrats.
A year since being nominated by Trump to helm the Fed, Powell is overseeing an economy in a sweet spot: It grew 3 percent over the past four quarters, and for the first time since the Fed introduced its 2 percent inflation objective in 2012, both the headline and core measures of year-on-year price changes hit the goal in September.
Unemployment is at 3.7 percent, the lowest in 48 years, while rising wages and demand for labor are pulling more people into the workforce, helping offset retirements by baby boomers.
Fed officials will update their forecasts in December having previously penciled in three increases in 2019, which would put the main rate roughly at levels that policy makers see as neither boosting nor restraining the economy.
Thursday’s Fed decision will be the last one without a press conference by the chairman. Powell’s final regularly scheduled quarterly briefing will occur after December’s gathering, and in 2019 he will begin speaking to reporters after every FOMC meeting.
Market Reaction : Wall Street falls after Fed statement, energy shares tumble
The S&P 500 and Nasdaq closed slightly lower on Thursday after a Federal Reserve statement, and energy stocks were the biggest drag on the S&P as U.S. crude oil prices fell.
The U.S. central bank said after its two-day meeting that strong job gains and household spending were keeping the economy on track but business investment “moderated from its rapid pace earlier in the year,” creating a possible drag on future economic growth.
Aside from the comment about business investments, the Fed statement was largely as expected and suggested to investors that the Fed’s next rate hike would be in December. But some investors had hoped for a change in tone after October’s market sell-off.
“The Fed has recognized that there is one part of the economy that is slowing a little bit, but it is not deterring them from their ‘gradual increase’ language. Not yet anyway,” said Jamie Cox, managing partner at Harris Financial Group, Richmond, Virginia.
“There is really nothing to point to what the market had hoped, that there would be a more dovish stance. So I think this is more of what we call a hawkish hold.”
The Dow Jones Industrial Average .DJI rose 10.92 points, or 0.04 percent, to 26,191.22, the S&P 500 .SPX lost 7.06 points, or 0.25 percent, to 2,806.83 and the Nasdaq Composite .IXIC dropped 39.87 points, or 0.53 percent, to 7,530.89.
The three indexes had all risen 2 percent in the previous day’s session due to a relief rally once the U.S. midterm congressional elections were in the rearview mirror.
Quincy Krosby, chief market strategist at Prudential Financial in Newark, New Jersey said companies were holding off on spending because of uncertainty over a U.S.-China trade war.
“A slowdown in business spending can slow the underpinning of the stock market,” Krosby said. “Is the Fed data-dependent or is it maintaining a rigid schedule for rate hikes in 2019? What would cause the Fed to pause? It’s clear from this statement today that they’re looking at anything that could potentially slow the economy.”
The S&P bank index .SPXBK ended the day with a 0.4 percent gain as U.S. Treasury yields rose because bank profits benefit from rising rates.
Energy stocks were the S&P’s biggest drag with a 2.2 percent drop as U.S. crude oil futures CLc1 confirmed a bear market, falling more than 20 percent from their Oct. 3 high as investors focused on swelling global crude supply, which is increasing more quickly than many had expected. [O/R]
The Wall Street Journal reported that Saudi Arabia’s top government-funded think-tank is studying the possible effects on oil markets of a breakup of OPEC in a story citing unnamed people familiar with the matter.
Declining issues outnumbered advancing ones on the NYSE by a 1.26-to-1 ratio; on Nasdaq, a 1.18-to-1 ratio favored decliners.
The S&P 500 posted 33 new 52-week highs and 4 new lows; the Nasdaq Composite recorded 76 new highs and 81 new lows.
On U.S. exchanges 7.23 billion shares changed hands compared with the 8.43 billion average for the last 20 sessions.
The Federal Open Market Committee meeting
The Federal Reserve Act of 1913 charged the Federal Reserve with setting monetary policy to influence the availability and cost of money and credit.
The Federal Open Market Committee (FOMC) meeting is a regular session held by the members of the Federal Open Market Committee, a branch of the Federal Reserve that decides on the monetary policy of the United States.
During these meetings, the FOMC reviews economic and financial conditions and determines the federal funds target rate
A decline in the target rate could stimulate economic growth; however, too much economic activity can cause inflation pressures to build. A rise in the rate limits economic growth and helps control inflation pressures; however, too great an increase can stall economic growth. The FOMC seeks a target rate that will achieve the maximum rate of economic growth.
A change in the federal funds rate can affect other short-term interest rates, longer-term interest rates, foreign exchange rates, stock prices, bond prices, the amount of money and credit in the economy, employment and the prices of goods and services.
So traders and investors around the world usually attempt to predict where monetary policy is headed next in each Fed meeting, and adjust their strategies and portfolios accordingly.
The Federal Funds Target Interest Rate
The federal funds rate is the interest rate that banks charge each other for overnight loans, meaning that it effectively acts as the base interest rate for the US economy. Changes to the federal funds rate will impact short and long-term interest rates, forex rates, and eventually economic factors like unemployment or inflation. This, in turn, will play out across the global economy.
While it doesn’t have a direct say over the rates charged by banks to lend money to each other, the FOMC can indirectly change the fed funds rate using three policy tools that affect money supply. These are open market operations, the discount rate, and reserve requirements.
Open market operations are the buying and selling of government bonds on the open market.
When the FOMC wants to decrease monetary supply it will sell bonds, taking money out of the economy and in turn raising interest rates. When it wants to increase money supply, it will buy bonds, injecting money into the economy and lowering rates.
As well as borrowing this money from each other at the federal funds rate, banks can borrow money directly from the Federal Reserve itself.
The interest rate a bank will have to pay to borrow from the Fed is called the discount rate. A lower discount rate will encourage a lower federal funds rate, and vice versa.
Reserve requirements are the percentage of a bank’s deposits from customers that it has to hold in order to cover withdrawals.
If reserve requirements are raised, then banks can loan less money and will ask for higher interest rates. If they are lowered, then the opposite happens.
Quantitative easing (QE) is an extra measure that the Fed can apply in times of severe financial situation. It is usually only used once the above policy tools have been exhausted.
In function, QE looks fairly similar to open market operations. The FOMC buys securities on the open market, injecting money directly into the system.