Clear forward guidance from the Fed and a run of strong economic data point to one probable outcome from the FOMC’s June meeting: a rate hike of 0.25%. We don’t believe that any external factors – such as emerging-market volatility or political tensions in Italy – are likely to deter the Fed at this stage.
The next Federal Open Market Committee (FOMC) meeting is not expected to deliver many surprises, given that the US Federal Reserve has already clearly telegraphed its next move. We expect to see a 25-basis-point rate hike in June, which would move the federal funds target rate to 1.75%-2%.
Recent economic indicators have confirmed a rising inflation trend in the US, which should help inflation settle solidly above the Fed’s 2% price-stability target. However, the markets are unlikely to be concerned about this, since it is another area where the Fed’s intentions have been quite clear: the forward guidance from the FOMC’s last meeting explicitly stated that the Fed was adopting a symmetrical inflation target of around 2%.
With the core personal consumption expenditures (PCE) price index showing a year-on-year increase of 1.6% in April, we are expecting PCE to rapidly breach 2% and remain squarely above this level. The US economy has also shown notable strength, marked by an 18-year low in the unemployment rate (3.8%) and an upward trend in wages. The combination of these factors gives the Fed a strong hand to play as it justifies the continued normalisation of its monetary policy.
Some investors have shown a tendency to reduce their expectations for rate hikes based on external issues, including tensions in emerging markets and resurgent political risks of the kind most recently seen in Italy. However, we believe it would be premature for the Fed to take these factors into account at this stage.
After the Fed’s anticipated June rate hike, we are expecting two more increases this year – for a grand total of four in 2018. We also expect to see two more rate hikes in 2019.
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Given the growing number of risks facing the EU – including slowing growth, rising US protectionism and upheaval in Italy – we expect caution from the ECB. Not only is it unlikely the central bank will detail the exit strategy for its extremely accommodative monetary policy, but QE may even be extended.