FOMC Keeps Dec Hike in Play As Asset Runoff Begins Oct>

--Median FFR Unchgd for '17, '18; 11 Mbrs See 1 More Hike This Yr

--Longer Run Fed Funds Rate Falls to 2.8% Vs 3.0% in June

--2017 Median Core Infl Fcast Down to 1.5% vs 1.7% June, Unempl 4.3%

--Hurricanes Could Dampen Activity, Boost Infl; Effects Temporary

By Jean Yung

     WASHINGTON (MNI) - The Federal Reserve on Wednesday set into motion 

a multi-year program to shrink its $4.5 trillion balance sheet and kept 

short-term interest rates on hold, as expected. Updated forecasts and 

the post-meeting policy statement also left a December rate increase on 

the table and signaled confidence about the pace of planned hikes next 

year. 

     The Federal Open Market Committee's updated quarterly forecasts 

call for a fed funds rate in the 1.25% to 1.50% range by year-end, 

matching June's forecast and representing one more rate increase this 

year. For 2018, the median policymaker sees the benchmark rate in the 

2.00% to 2.25% range, unchanged from June, though those who 

had forecasted higher rates in June pared them back as officials 

downgraded expected progress on their inflation target. 

     Importantly, the FOMC's estimate of the longer run fed funds rate 

fell two-tenths to 2.8%, indicating officials view the current stance of 

policy is actually closer to neutral than policymakers thought in June. 

     "The Committee expects that economic conditions will evolve in a 

manner that will warrant gradual increases in the federal funds rate," 

the FOMC said in its policy statement. 

     Reinvestment of Treasuries and mortgage-backed securities on the 

Fed's balance sheet will begin to be phased out in October, the FOMC 

said. The move marks the start of a new chapter in the Fed's deployment 

of unconventional policies to support the economy after the financial 

crisis and signals a gradual pullback of monetary stimulus as rates move 

further away from zero. 

     Thus far, markets have shown little concern about the plan 

officials describe as passive and predictable. Instead they are more 

focused on the rate guidance amid a midyear shortfall in inflation. 

Wednesday's Summary of Economic Projections puts markets on notice that 

rate hikes remain an active part of the Fed's toolkit. 

     In the so-called dot plot, 11 FOMC members, including nonvoters, 

expect one more hike to be appropriate this year, up from eight in June. 

Fewer members, just one, viewed it appropriate to increase rates two 

more times this year. The rest, four members, called for no more hikes 

this year, same as the June forecast. 

     The higher dots drifted lower in 2018 as well, but now six instead 

of five officials are in the three-hike camp -- assuming 2017 concludes 

with another hike. Four committee members are calling for two or fewer 

hikes and seven want four or more hikes. 

     Ahead of the meeting Wednesday, futures markets were pricing in a 

56% chance of a December increase and no more than two rate hikes 

between now and the end of 2018, according to CME Group. 

     In its policy statement, the FOMC again noted the soft inflation 

data, reiterating that headline and core inflation had "declined" 

this year and are "running below 2 percent." 

     Officials forecast the core personal consumption expenditures 

price index, their preferred measure of inflation, to reach just 1.5% 

by the end of the year, down from 1.7% in the June projection. For 2018, 

core PCE is seen missing the 2% goal by a hair, ending the year at 

1.9% rather than reaching that target as the FOMC had expected in June.  

     "Inflation on a 12-month basis is expected to remain somewhat below 

2 percent in the near term but to stabilize around the Committees 2 

percent objective over the medium term," it said, repeating language 

from the July policy statement. 

     The Fed also acknowledged the impact of an extraordinarily damaging 

hurricane season, stating that "storm-related disruptions and rebuilding 

will affect economic activity in the near term, but past experience 

suggests that the storms are unlikely to materially alter the course of 

the national economy over the medium term." 

     Officials also acknowledged that "higher prices for gasoline and 

some other items in the aftermath of the hurricanes will likely boost 

inflation temporarily." 

     Still, the Fed offered an upbeat assessment of current economic 

conditions, noting job gains "have remained solid in recent months" 

while the unemployment rate "has stayed low." Household spending and 

business fixed investment are also expanding. 

     They said near-term risks to the outlook appear "roughly balanced." 

And, as it has for the past year, the FOMC stated: "the stance of 

monetary policy remains accommodative, thereby supporting some further 

strengthening in labor market conditions and a return to 2% inflation." 

     Policymakers' median forecast for unemployment and the GDP growth 

outlook moved up slightly compared to the June forecast. GDP growth was 

upgraded by two-tenths to 2.4% for the year, then slowing to 2.1% in 

2018, 2.0% in 2019 and to its trend rate of 1.8% in 2020. The median 

year-end unemployment rate expected was steady at 4.3% this year but is 

seen falling to 4.1% in 2018 and 2019, down by 0.1 percentage point. The 

longer run rate of unemployment remained at 4.6%. 

     The Fed also added a new year to its forecast horizon, projecting 

the fed funds rate could rise to 2.9% that year, slightly above the 

estimate of its longer run neutral rate. 

     With the economy evolving broadly as expected and rates heading 

higher, the FOMC said it is ready to begin implementing its balance 

sheet normalization program. 

     Building on the details the gradual unwind it first unveiled in 

June, the Fed on Wednesday said rollover amounts will be allocated 

"across the month's maturity dates in proportion to total maturities of 

SOMA Treasury holdings on each date." 

     Up to $6 billion of maturing Treasuries and $4 billion of MBS per 

month will not be reinvested, starting on Oct. 31. The combined monthly 

cap will then rise by $10 billion at three-month intervals over the next 

12 months until it reaches a ceiling of $50 billion per month. The 

normalization process will continue until the Fed is "holding no more 

securities than necessary to implement monetary policy efficiently and 

effectively," the specifics of which officials have yet to define. 

     In practice, the New York Fed has projected that actual runoff 

amounts are not likely to reach these preset caps in most months as less 

debt is due than the cap amount. Ultimately, the bank has said, the 

balance sheet could shrink to a level between $2.4 trillion to $3.5 

trillion, sometime between 2020 and 2023, with the portfolio consisting 

primarily of Treasuries. That is still much greater than its $900 

billion size before the Great Recession. 

--MNI Washington Bureau; tel: +1 202-371-2121; email: jean.yung@marketnews.com 

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