MNI REVIEW: Fed Favors Extended Rates Pause; Ends QT in Sept

By Jean Yung

     WASHINGTON (MNI) - In a decidedly dovish turn, Federal Reserve officials

Wednesday signaled they favored keeping interest rates unchanged for the year

and possibly longer in the face of a global slowdown and announced an end to the

balance sheet runoff program in September. 

     The FOMC remained uncertain over the minimum level of bank reserves needed

to implement policy effectively. 

     Eleven of 17 officials saw no move in rates this year, compared with a

previous forecast for two rate hikes this year, and a plurality of seven

officials saw no hikes next year, according to the latest projection. Odds of a

rate cut by year-end rose to about 50% from 30% after Wednesday's meeting. 

     With a downgraded economic outlook and a flatter rates projection, the FOMC

repeated its "patient" stance and made no other changes to guidance in the

post-meeting statement.

     "Patient means that we see no need to rush to judgment, and it may be some

time before the outlook for jobs and inflation calls clearly for a change in

policy," Powell told reporters afterward. 

     "The data are not currently sending a signal that we need to move in one

direction or another, in my view," he later added. 

     --GLOBAL HEADWINDS 

     Despite a U.S. economy that's slowing markedly this year, Powell emphasized

that growth of above 2%, unemployment below 4% and inflation close to target

comprise a picture that's "overall favorable." 

     Underlying fundamentals are still "very positive," he said, citing a strong

labor market, rising incomes and easier financial conditions than a few months

earlier. 

     However, weaker global growth and the lack of resolution on Brexit and

other trade negotiations are creating headwinds for the U.S. economy, though the

cumulative effect is difficult to estimate, Powell said. Still, "we don't see a

recession" in Europe, and Beijing has taken steps to stabilize growth "at an

attractive level."  

     Meanwhile, a decade into the current expansion, U.S. inflation has yet to

"convincingly" meet the Fed's target, Powell said. Some officials posit perhaps

there is still more slack in the labor market, while some others blame lowered

inflation expectations, he said, but there is no clear answer.  

     "Our policy rate is in the range of neutral, the economy is growing at

about trend, inflation is close to target, unemployment is under 4%. It's a

great time for us to be patient and watch and wait and see how things evolve,"

Powell said. 

     --RUNOFFS END 

     By the time runoffs conclude in September, the Fed will be left with a

balance sheet size a bit above $3.5 trillion, Powell estimated, largely meeting

market expectations.  

     From there, the Fed will allow growth in currency and other nonreserve

liabilities to slowly whittle down the pool of bank reserves until they reach a

minimum level needed "to conduct policy efficiently and effectively." But Powell

signaled the Fed had made no determination on how long that process would last.

     "The level of reserve demand is something that we have put a lot of effort

and time into creating estimates based on market intelligence and surveys. The

truth is we don't know. It may evolve over time. We will just have to see,"

Powell said. 

     --REINVESTMENT POLICY

     Other matters left for future deliberation include the longer-run maturity

composition of the balance sheet. Eventually the Fed will let the balance sheet

expand again to keep pace with growing demand for its liabilities. 

     Starting in October, up to $20 billion of maturing agency mortgage-backed

securities will be reinvested in Treasury securities across a range of

maturities to roughly match the maturity composition of Treasury securities

outstanding, marking the first time in years the Fed will be buying bills in

addition to longer-term assets. 

     The FOMC said it intends to "revisit this reinvestment plan" as it

continues discussions over the coming meetings. 

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

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