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Fed leaves US interest rates unchanged but signals two increases coming in 2016

Traders turn focus to July Fed meeting, but money seems to be going to September hike

PUBLISHED : Thursday, 16 June, 2016, 2:13am
UPDATED : Thursday, 16 June, 2016, 4:29am

The Federal Reserve kept US interest rates unchanged on Wednesday and signalled it still planned two hikes this year, although a slowing economic growth path for 2016 and 2017 prompted a downgrade in where the US central bank thought rates would peak.

Even this year’s rates projection was less secure than previously, however. Six of the Fed’s 17 individual forecasts from governors and regional Fed presidents projected just one hike this year, compared with one such outlook when the forecasts were last issued three months ago.

“We are quite uncertain about where rates are heading in the longer term,” Fed Chair Janet Yellen told a news conference after the rate decision.

The US central bank lowered its economic growth forecast for 2016 to 2.0 per cent growth from 2.2 per cent and its outlook for 2017 to 2.0 per cent from 2.1 per cent.

It also cut its longer term view of the appropriate federal funds rate by a quarter point to 3 per cent and indicated it would be less aggressive in tightening monetary policy after the end of this year.

Yellen gave no clues as to whether a rate hike could come as early as the Fed’s next rate-setting meeting in July, or whether the central bank would wait for a slew of firmer data as it headed into its September meeting. Markets have all but priced out any rate rise in 2016.

“While the recent labour market data have on balance been disappointing, it’s important not to overreact to one or two monthly readings,” she said, adding the Fed expected jobs to strengthen further.

Policymakers have been worried about potential weakness in the US labour market and the possibility of financial turmoil if Britain votes next week to leave the European Union.

Yellen acknowledged “Brexit” was one of the factors in Wednesday’s rate decision and said Britain’s decision whether to remain or leave the European Union would have “consequences for economic and financial conditions in global financial markets”.

Financial markets all but priced out a rate increase this year after the Fed statement, and US short-term interest rate futures contracts rose. US stocks held on to their pre-meeting gains.

Even steady Fed hawks backed away from pushing for a hike at Wednesday’s meeting, analysts noted.

“It’s as dovish as the Fed can get without actually cutting rates. Even (Kansas City Fed President) Esther George withdrew her dissent. The path of rates is lower, which is a big dovish swing,” said Brian Jacobsen, chief portfolio strategist at Wells Fargo Fund Management.

The Fed has implemented just one rate rise in a decade and its target range for overnight lending rates between banks remained between 0.25 per cent to 0.50 per cent.

It raised rates in December and initially signalled four increases were likely for 2016. Concerns about a global economic slowdown and volatility in financial markets subsequently reduced that number to two.

Although worries about the health of the global economy have eased, a sharp slowdown in US hiring in May was unsettling. More recent data have indicated that last month’s jobs report may have been a blip.

The Fed statement said economic activity appeared to have picked up since April.

Economists polled by Reuters had seen virtually no chance that the Fed would raise rates on Wednesday. Most had expected it to do so in July or September on a view that the US job market would bounce back and Britain’s EU referendum would not lead to a financial meltdown.

While traders had discounted a rate increase this month by the Fed’s Federal Open Market Committee, or FOMC, they have been eager for clues about the health of the economy and the trajectory of future hikes.

Investors have become more nervous ahead of a vote in Britain next week on whether to leave the European Union, with recent opinion polls indicating growing support for such a move.

The S&P 500 was poised to close higher following four straight sessions of losses caused in part by worries that a fractured European Union could critically damage an already shaky global economy.

“This is an FOMC announcement that really speaks to a global weakness and the bottom line is it underscores the fact the US is not an island and the global markets and economy are more interconnected than they have ever been,” said Peter Kenny, Senior Market Strategist at Global Markets Advisory Group in Berkeley Heights, New Jersey.

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