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--Fed Expected to Hold Rates Steady in Jan Meet, Little Change in Statement
--On Track for Quarterly Hikes, Three or More if Economy Surprises to Upside
By Jean Yung
     WASHINGTON (MNI) - With the U.S. economy surging and cyclical inflationary
factors set to exert themselves, expect the Fed to stick to its game plan on
interest rates: three hikes this year, or more if the economy performs better
than expected. 
     The Federal Reserve remains on track for continued monetary tightening in
2018 as Chair Janet Yellen prepare for her final policy meeting Jan. 30-31.
While officials have laid out a path of rate hikes at the three-a-year pace to
which markets have become newly accustomed, better-than-expected economic data
could push them toward four or even more.
     After Yellen called low inflation the "biggest surprise" in the economy
last year, there are signs it has turned a corner. Fed officials have been
signaling their willingness to accept above-target inflation for a period of
time -- even welcoming it. The core personal consumption expenditures price
index, the inflation gauge favored by policymakers, accelerated to 1.5% in
November from a low of 1.3% in August.
     While structural factors such as technology-related disruptions and
globalization could cap price pressures, cyclical factors driving inflation
could take over this year. One-off price adjustments for cheaper mobile service
plans and a slowdown in key categories like health care will also drop out of
the year-on-year calculations by spring. 
     Meanwhile, the economy is moving full steam ahead. Both U.S. and global
growth continues to run well above trend, with momentum sustained across both
developed and emerging markets. U.S. GDP looks poised for 2.75% to 3.75% growth
over the next couple of quarters on the back of an overhaul of the U.S. tax
system recently signed by President Donald Trump. 
     Stock markets are fully risk-on and sentiment toward investment spending is
changing as firms loosen purse strings to lay out for new capital. 
     The Federal Open Market Committee in December reckoned it had already met
one half of its dual mandate -- maximum employment -- while the first jobs
report of the year showed steady improvement in the labor market without signs
of overheating wage growth. That makes an argument neither for slowing nor
quickening the pace of tightening. 
     With most indicators flashing green, it is reasonable for the Fed to push a
balanced outlook while continuing to tighten at the pace the market is already
comfortable with, which is to say one hike per quarter. That could mean three or
even four hikes in 2018, as there will be no balance sheet reduction
announcement as a substitute for a rate increase this year.
     Expect little if any edits in the January policy statement, save for an
update of the Fed's assessment of current economic conditions, which could hint
at progress toward its inflation target. 
     Although the bar is likely to be set high for a rates path significantly
more aggressive than the median forecast for the year, the FOMC has hinted it
might consider that option under the right circumstances. "Participants
discussed several risks that, if realized, could necessitate a steeper path of
increases in the target range; these risks included the possibility that
inflation pressures could build unduly...perhaps owing to fiscal stimulus or
accommodative financial-market conditions," according to the minutes of the
December meeting. 
     At the same time, a hike at an off-quarterly meeting would invite some
confusion and possibly market indigestion. And if the economic outlook or
markets were to falter, the Fed could quickly halt intentions for a quarterly
     One counter indicator has been the yield curve. Fed-linked short-term rates
such as 2-year Treasury notes are high compared to subdued long-term yields.
That could reflect the fact that the Treasury is finding it easy to place
long-dated debt with investors, or that markets expect the current robust pace
of growth to unwind in the next 12 months, or both. 
     As the FOMC cautioned in the December minutes, the flatter yield curve at
present isn't unusual by historical standards and should not immediately be
interpreted as a warning signal. But policymakers are also keen not to
contribute toward a curve inversion, a bad omen for the economy. 
--MNI Washington Bureau; +1 202-371-2121; email:
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