Fed minutes lean dovish

The FOMC minutes from the 14 June policy meeting appear relatively dovish compared to the rate hike and less dovish presentation by Yellen at the time of the meeting.

They indicate that the low inflation outcomes were a cause for concern. And some reluctance to hike rates once the Fed begins its unwind of its balance sheet.

On a more hawkish note, it does appear that the Fed was concerned by high asset prices and easing financial conditions (despite their policy tightening to-date), and this was a factor emboldening the decision to hike in June.

On when to begin the balance sheet run-down, all thought it would begin this year; several thought in a couple of months (September meeting).  Some preferred later.

A WSJ article from earlier in the week suggested the Fed might prefer to start the QE unwind in September, but then delay a decision on further rate rises until December.  This seems to gel with some reticence to hike during the balance sheet unwind.

The market recently is more focused on a shift towards less policy accommodation rhetoric from a number of central banks, and has not responded much to these minutes.  But if anything they suggest the Fed will be more cautious about rate rises ahead, both because inflation is lower and they are readying to run-down the balance sheet.

 

Low inflation discussion

The low inflation outcomes appear to have generated a significant amount of discussion.  We know in the end that Fed went ahead with its thirdly quarterly rate hike in a row in June, and that Chair Yellen said that the recent falls in inflation were due to some special factors that were likely to be transitory.

However, there were “several” FOMC members concerned that low inflation would persist and the historical relationship between “resource utilization” and inflation [ Phillip’s curve] “appeared to be weaker than in previous decades.”

And “some participants” emphasized downside risks, particularly in light of the recent low readings on inflation along with measures of inflation compensation and some survey measures of inflation expectations that were still low.”

Countering these views, “a couple of participants expressed concern that a substantial undershooting of the longer-run normal rate of unemployment could pose an appreciable upside risk to inflation or give rise to macroeconomic or financial imbalances that eventually could lead to a significant economic downturn.”

“Participants agreed that the Committee should continue to monitor inflation developments closely.”

“Several” and “some” expressing concern over low inflation is more than “a couple” countering their views. But there were presumably a larger number of fence-sitters.  They all agreed inflation developments needed monitoring.

It is noteworthy that the couple countering the low inflation concerns brought into the discussion “macroeconomic of financial imbalances.”

 

Financial Stability discussion

It appears that financial stability concerns also featured significantly in this meeting.  It seems most participant, with no countering voices, acknowledged asset market strength and thought that financial conditions had eased.

The minutes said, “In their discussion of recent developments in financial markets, participants observed that, over the intermeeting period, equity prices rose, longer-term interest rates declined, and volatility in financial markets was generally low. They also noted that, according to some measures, financial conditions had eased even as the Committee reduced policy accommodation and market participants continued to expect further steps to tighten monetary policy.”

“A few participants expressed concern that subdued market volatility, coupled with a low equity premium, could lead to a buildup of risks to financial stability.”

“A few participants also judged that the case for a policy rate increase at this meeting was strengthened by the easing, by some measures, in overall financial conditions over the previous six months.”

 

Balance sheet wind-down

All participants agreed that it “would likely become appropriate” begin reducing the Fed’s holdings of Treasuries and Agency bonds this year.  But there was disagreement on how soon and how this might affect rate rates policy.

“Several preferred to announce a start to the process within a couple of months.”

“Some others” preferred waiting until later in the year, allowing “additional time to assess the outlook for economic activity and inflation.”

“A few of these” were concerned that the market might “misinterpret” the balance sheet wind-down as a “less gradual” policy normalization.

Members are mixed on their views on if, and if so, how much, the QE wind-down will tighten monetary conditions.

“Some” want to wait before commencing QE down, to allow more time to assess the outlook for the economy and inflation, and “Several” thoughts QE wind-down would result in more gradual rate hikes.

“Some others” thought the QE wind-down would not make much difference to the path for rates.

“Several participants indicated that the reduction in policy accommodation arising from the commencement of balance sheet normalization was one basis for believing that, if economic conditions evolved broadly as anticipated, the target range for the federal funds rate would follow a less steep path than it otherwise would. However, some other participants suggested that they did not see the balance sheet normalization program as a factor likely to figure heavily in decisions about the target range for the federal funds rate. A few of these participants judged that the degree of additional policy firming that would result from the balance sheet normalization program was modest.”

A “few participants” that supported the rate hike in June, “were less comfortable with the degree of additional policy tightening through the end of 2018 implied by the June SEP median federal funds rate projections.”  This suggests that they were biased towards delaying hikes as the QE wind-down proceeded.