US economy

Fed holds rates but signals more dovish outlook 

The Federal Reserve held interest rates steady but shifted towards a more dovish stance and pointed to possible interest rate cuts in the future, citing rising “uncertainties” about the economic outlook.

At the end of a two-day meeting marked by concerns about slowing growth and rising trade tensions, the US central bank said it would “act as appropriate to sustain the expansion” and would “closely monitor the implications of incoming information for the economic outlook”.

This language marked a change from the Fed’s previous stance that it would simply be “patient” in determining changes to interest rate policy. The Fed also downgraded its description of the health of the US economy, saying activity was rising at a “moderate rate” — a less rosy picture than the “solid rate” of expansion it saw in May — and noted that inflation continued to run below its 2 per cent target.

But even as the Fed set the stage for possible monetary stimulus, economic projections released by the US central bank along with its statement suggested that interest rate cuts could take time to happen — and may not occur before next year. 

The median interest rate forecast of Fed officials showed no change for the rest of 2019, but a 25 basis point reduction next year, compared with their previous projection of a 25bp increase in 2020.

Jay Powell, Fed chair, faced one dissent in the decision to keep rates on hold, with James Bullard, president of the St Louis Fed, saying he would have preferred to cut rates on Wednesday by 25bp.

But while Mr Powell said many officials saw a stronger “case” for cutting rates, there was not much support for an immediate move to ease policy — as officials wanted to gather more information before taking action. “We’d like to see if these risks continue to weigh on the outlook,” he said during a press conference after the statement. “We want to see and we want to react to trends that are sustained, that are genuine.”

US government bond prices rallied on the expectation that the Fed will ease monetary policy later this year. The yield on the policy-sensitive two-year Treasury fell 12bp to 1.74 per cent, its lowest level since November 2017. The dollar was also lower against every other major currency. 

The US stock market, which came under pressure last month when resurgent trade tensions sparked concerns over economic growth, also cheered the more dovish signals. The S&P 500 added 0.3 per cent in the wake of the Fed decision. 

Despite the gathering clouds around the US outlook, economic data were still mixed and not uniformly deteriorating, according to the Fed.

“Job gains have been solid, on average, in recent months, and the unemployment rate has remained low,” it said in its statement. “Although growth of household spending appears to have picked up from earlier in the year, indicators of business fixed investment have been soft.” 

This week’s Fed meeting came after Mario Draghi, the president of the European Central Bank, pointed to a fresh stimulus for the eurozone. That signal triggered an irate tweet by Donald Trump, the US president, who accused Mr Draghi of unfairly trying to devalue the euro.

Mr Trump has been putting heavy pressure on Mr Powell to cut interest rates, triggering criticism that he is undermining Fed independence. When asked in advance of the Fed meeting whether he might consider removing Mr Powell from the top job at the Fed, Mr Trump said on Tuesday: “We’ll see what happens.”

Mr Powell on Wednesday responded to Mr Trump’s comments by saying he expected to serve out his full four-year term in office. He said the Fed was “deeply committed to its mission”, and that “independence from direct political control” was an “important institutional feature” that helped the US economy.

A move towards lower interest rates at the Fed would represent a remarkable U-turn in policy for the US central bank compared with 2018, when Mr Powell oversaw a series of gradual increases in the fed funds rate to bring it up to its current level of 2.25-2.5 per cent. By March, however, most Fed officials were no longer expecting interest rate rises, and the Fed effectively switched to a neutral posture, saying it would adopt a “patient” approach to interest rate changes in either direction.

But with trade tensions rising, economic data pointing to a slowdown, and investors buying up US government debt in anticipation of a possible easing, Mr Powell and other Fed officials began seriously considering interest rate cuts — which would be their first downward shift since September 2007.

At a Fed conference in Chicago this month, Mr Powell sent what was widely interpreted as a signal that he was prepared to cut rates, saying the Fed was ready to act to sustain the expansion amid uncertainty about the outcome of trade negotiations.

The trade outlook has brightened slightly since the beginning of the month, however. Mr Trump has cemented plans to meet Xi Jinping, his Chinese counterpart, at the G20 summit in Japan late next week. That raised the possibility of a new cycle of negotiations, following the acrimonious breakdown in talks with Beijing in May, which led to an escalation in tariffs on both sides.

Meanwhile, Mr Trump clinched a deal with Mexico on migration, retreating from his threat to impose tariffs on the southern neighbour of the US.

Additional reporting by Robin Wigglesworth


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