USBAM Comments on the May 1st FOMC Meeting

The FOMC left the federal funds target range, quantitative tightening and hike plans unchanged, while slightly lowering IOER in an attempt to influence the effective federal funds rate.

Jim Palmer, Chief Investment Officer

Shocking no one, the Federal Open Market Committee (FOMC) left monetary policy essentially unchanged at the May 1st meeting, snubbing President's Trump vocal admonition to cut policy rates by 100 basis points (bps) and restart quantitative easing.

Key takeaways from the FOMC's May meeting:

  • The federal funds target range remained unchanged at 2.25% - 2.50%
  • No adjustments were made to March's FOMC Dot Plot forecast for zero rate hikes in 2019 and one rate hike in 2020
  • The FOMC median estimate for the long-run neutral funds rate was unchanged at 2.75%
  • Balance Sheet Normalization (Quantitative Tightening) plans remained unchanged: 
    • Quantitative tightening will conclude at the end of September 2019
    • The reduction in U.S. Treasury holdings will slow to $15 billion from $30 billion beginning in May 2019
    • Beginning in October 2019, reductions in agency debt and agency MBS will continue to be subject to a $20 billion per month cap, with the reduction in MBS holdings reinvested in U.S. Treasuries
    • Reinvestment in U.S. Treasuries will roughly match the maturity composition of Treasuries outstanding
  • The Interest on Excess Reserves Rate (IOER) was reduced 5 bps from 2.40% to 2.35%
  • In the statement, the FOMC acknowledged overall inflation and core inflation "have declined and are running below 2%"

Fine-tuning IOER is a very inside baseball adjustment, important primarily to those in the funding markets. The effective federal funds rate has been drifting higher within the FOMC's stated target range, essentially trading above IOER's 2.40% mark the entire month of April. The 5 bp reduction in IOER is an attempt to better control the federal funds rate and should not be interpreted as a dovish shift in bias.

Wednesday's mixed economic data bolstered the case for Fed patience. April's ADP employment report of +275,000 jobs exceeded estimates of +180,000, not including a decent +22,000 revision to March's job print. April's disappointing ISM Manufacturing reading of 52.8 reflected continued expansion but was well below estimates of 55.0. Extrapolating trends out of single data points is unwise, especially when data is so divergent. The most prudent path is for the Fed to ignore the President's advice and remain on its current data-driven and patient path.

Interestingly, the probability of a 2019 rate cut as calculated by federal funds futures fell from 71% to 58% during Chairman Powell's press conference, influenced by the Chairman's confident economic outlook and statement that committee members did not see a strong case for a rate move either way. U.S. Bancorp Asset Management continues to anticipate no policy rate moves in 2019.

Sources:

Bloomberg

Federal Reserve Press Release, Federal Reserve Issues FOMC Statement, May 1, 2019.

Federal Reserve Press Release Materials, FOMC Statements: Side-by-side, May 1, 2019

Federal Reserve Press Release Materials, Decisions regarding Monetary Policy Implementation, May 1, 2019