Fed: What’s next in store for 2018? - Rabobank

The FOMC projections provided at the conclusion of the December 12-13 meeting showed 3 policy rate hikes of 25 bps each for 2018 and a rise in both headline and core inflation – as measured by the PCE deflator in year-on-year terms – to 1.9% by 2018Q4, notes Philip Marey, Senior US Strategist at Rabobank.

Key Quotes

“Note that while the PCE deflator stood at 1.8% in November 2017, the core PCE deflator trailed at 1.5%. In fact, we think that core inflation will continue to remain well below the Fed’s 2% target during most of 2018.”

“Therefore, we expect only two hikes in 2018 instead of the three hikes that are implied by the dot plot. Since the third hike of last year looked like a leap of faith, we think that the Fed will skip March as an opportunity for the first hike in 2018. Instead, we expect one hike in June and another in December.” 

“Admittedly, there is a lot of uncertainty about 2018. First, the composition of the FOMC will change dramatically. President Trump can decide whether he wants a hawkish or dovish Fed. This also implies that last year’s December dot plot is less relevant than usual. Second, the tax cuts could potentially have a significant impact on the economy and consequently on the Fed’s hiking cycle.”

“Third, although we have our doubts at the moment, if the Phillips curve were to materialize in the coming months that would also alter our forecasts. Finally, in early February Jerome Powell will replace Janet Yellen as the Fed Chair. While his views on rate policy are similar to his predecessor, the minutes confirmed that a few FOMC participants are pushing for a rethink of the Fed’s current monetary policy framework.”

“All’n all, the FOMC appears to be losing cohesion as the end of Chair Yellen’s term comes in sight. Conflicting views on inflation and the appropriate amount of rate hikes, as well as doubts about the current monetary policy framework, will be a challenge for Powell when he takes over after the January 30-31 meeting of the FOMC.”