Fed Keeps Rates Unchanged; Balance Sheet Normalization Will Begin Next Month

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  • As expected, the FOMC left the Federal Funds target rate between 1% and 1.25%
  • The FOMC statement was very upbeat citing solid job gains, low unemployment rates, a moderate expansion of household spending, and a pickup in business investment growth.
  • The FOMC acknowledged the devastation from hurricanes Harvey, Irma, and Maria and its impact on the near-term economic activity but expects the national economy will continue to expand over the medium-term
  • Inflation is expected to remain below its 2% objective in the near-term but stabilize over the medium-term
  • Balance sheet normalization program will kick off next month, October 2017
  • ALL voting members agreed with the policy action; there were no dissents
  • 10-Year Treasury rates are up 2.5 basis points

Balance Sheet Normalization

  • The FOMC directed its trading desk to begin to gradually reduce its reinvestment of principal payments from its balance sheet holdings
  • The reinvestment caps are scheduled to increase by $10 billion every three months to a maximum of $50 billion per month until the central bank’s overall balance sheet falls by perhaps $1 trillion or more
  • Specifically, the trading desk will be reinvesting each month’s principal payments from US Treasury securities, Agency Debt, and Agency mortgage-backed securities – only to the extent that such payments exceed gradually rising caps:
MONTHLY CAPS ON SOMA SECURITIES REDUCTIONS
TREASURY SECURITIES AGENCY SECURITIES*
Oct – Dec 2017 $6 billion $4 billion
Jan – Mar 2018 $12 billion $8 billion
Apr – Jun 2018 $18 billion $12 billion
Jul – Sep 2018 $24 billion $16 billion
From Oct 2018** $30 billion $20 billion

*Applies to combined principal payments of agency debt and agency MBS.
**Once caps reach their maximum amounts, they will remain in effect until the Committee judges that the Federal Reserve is holding no more securities than necessary to implement monetary policy efficiently and effectively.
Source: https://www.newyorkfed.org/markets/opolicy/operating_policy_170920

Summary of Economic Projections

  • The FOMC expects to hike rates 1 more time this year
  • 3 times expected in 2018
  • 2 times expected in 2019 (was previously 3 times)
  • If the Fed were to stay the course and hike rates according to this schedule, we would see the Fed Funds rate rise to 2.75% by the end of 2019.
  • In conjunction with the unwinding of the Fed’s quantitative easing, we would expect interest rates to rise significantly higher as the FOMC’s trading desk is currently a major buyer of US Treasury securities.