The Federal Reserve has increased interest rates for the third time this year but the suggestion that it could carry out its planned three hikes in 2019 has been labelled as “absurd” by one investor. 
The bank’s Federal Open Market Committee (FOMC) yesterday lifted the target for its benchmark rate by 0.25 per cent, to a range of 2 per cent to 2.25 per cent.
The move, which was widely expected by the market, was the Fed’s eighth rate rise since 2015. It also said it expects to carry out one more increase in 2018, three more next year and another in 2020.
In a statement, the FOMC highlighted a number of positives for the US economy including the strengthening labour market, rising economic activity, growing household spending and business fixed investment, and on-target inflation.
FOMC’s outlook for consumer inflation
Source: Federal Reserve
“Consistent with its statutory mandate, the committee seeks to foster maximum employment and price stability,” the statement added.
“The committee expects that further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labour market conditions, and inflation near the committee’s symmetric 2 per cent objective over the medium term.”
At a press conference after the meeting, Federal Reserve chair Jerome Powell argued that the US economy was strong enough that it no longer needs the stimulus of historically low interest rates, which have been in place since the onset of the global financial crisis.
Powell added that the rate rise comes at a “particularly bright moment” for the US economy. The Fed also choose this time to end the description of its monetary policy as ‘accommodative’.
Kully Samra, UK managing director of Charles Schwab, agreed that the hike comes after strong GDP figures for the first half of 2018 and “demonstrates the Fed’s faith that it can continue to raise rates gradually without slowing economic growth”.
However, some investors cast doubt on the idea that the central bank would be able to stick with its planned rate rises for the next two years. Bob Baur, chief global economist at Principal Global Investors, said: “The Fed raised rates as expected but three hikes next year is absurd.
“With an additional rate hike likely in 2018 and one in March next year, we will reach what many Fed governors feel is a neutral rate level. With the low odds of a spike in inflation, it makes sense that the Fed would pause after the March rate hike and allow the markets to adjust to its new policy.
FOMC participants’ assessments of appropriate monetary policy – Fed ‘dot plot’
Source: Federal Reserve
“The Fed removing the word ‘accommodative’ is another indication that the Fed may pause after its first rate hike next year.”
Projections released after the meeting show that Fed officials now expect the US economy to grow by 3.1 per cent in 2019, which is an upgrade on their forecast of 2.8 per cent made in March. However, they also expect the growth rate will drop back to 2.5 per cent next year, 2 per cent in 2020 and 1.8 per cent in 2021.
Anna Stupnytska, global economist at Fidelity International, noted that while the FOMC’s statement was upbeat, the overall tone of Powell’s press conference was relatively dovish – which she interpreted as being intended to give the bank greater flexibility around its future policy path given the multitude of uncertainties being seen today.
“As the fiscal boost starts to wane and broad financial conditions tighten further, growth should start decelerating towards trend – potentially quite fast, around the middle of 2019 as the economic cycle matures,” she explained.
“While the dot plot suggests a fourth hike this year and three more next, this will likely prove too aggressive for the US economy, especially considering that the net impact of quantitative tightening running in the background is still ambiguous.”
Stupnytska added that the Fed’s projected of tightening will likely prove too much for the rest of the world. Emerging market economies in particular have already been facing tighter financial conditions in 2018, which have resurfaced some of their vulnerabilities as capital flows started reversing.
“So far, the related stress in the likes of Turkey has remained quite isolated but as global liquidity tightens further, such stresses could become systemic,” the global economist said.
“With the trade war rhetoric unlikely to de-escalate any time soon, the overall risks to US and global growth are clearly skewed to the downside. This means the Fed will have to strike a more cautious tone, slowing the pace of tightening next year, but we are not there yet.”