As anticipated, the FOMC maintained its target range for the federal funds rate at 1.50%-1.75% and signalled that it will remain on hold for 2020. Nevertheless, we opine that while there is a de-escalation of trade tension in the immediate future, monetary policy continues to be dominated by trade dispute and its implications on global and domestic economy. Hence, any deterioration in the relationship between the two major economies could inevitably lead to one more rate cut. Closer to home, against the backdrop of a more modest global growth, we maintain our expectation for BNM to reduce the OPR by 25bps by 1H 2020.

DATA HIGHLIGHTS

As expected, the FOMC maintained the target range for the federal funds rate at 1.50- 1.75%. Overall, the FOMC was slightly more optimistic on the economy. While it maintained its overall assessment on the economy, it removed the prior statement that said ‘uncertainties about this outlook remain’. The Committee judges that the current stance of monetary policy is appropriate to support sustained expansion of the economic activity, strong labour market and inflation near the Committee’s 2% objective. The Committee said job gains have been solid, and the unemployment rate remained low. They also maintained the assessment that business fixed investment and exports remain weak. On inflation, the Committee noted that overall inflation and inflation for items other than food and energy are running below 2%. Market based measures of inflation expectations have remained low while survey-based measures are little changed. The Committee will continue to monitor implications for economic outlook including global developments and inflation pressures as it assesses the appropriate path of the target range for the federal funds rate.

2019 GDP forecast was maintained at 2.2% and anticipated to ease to 2.0% in 2020. Unemployment expectation was slightly lower at 3.6% (previous: 3.7%) in 2019 and 3.5% (previous: 3.7%) in 2020 suggesting the FOMC continues to see labour market strength. Forecast for 2019 and 2020 PCE deflator was unchanged at 1.5% YoY and 1.9% YoY respectively, suggesting inflation is expected to remain below 2% YoY target. Core PCE deflator forecast was reduced to 1.6% (1.8% YoY) in 2019 and expected to improve marginally to 1.9% YoY for 2020 (previous: 1.9% YoY). For 2019 and 2020, FOMC members’ projection of median fed fund rate was held at 1.6% (previous: 1.9%) and expected to remain at 1.6% in 2020 (previous: 1.9% YoY).

HLIB’s VIEW

After reducing the interest rate three times this year, the FOMC maintained its interest rate and signalled that it will remain on hold for 2020 amid persistently low inflation. The decision to keep rates unchanged was unanimous, following several dissents in previous meetings. While there were three members who forecast one rate hike in 2020, majority of members (13/17) expected no policy rate change. This decision comes at a time when the 10 year – 2 year Treasury yield curve has remained in the positive territory while there is continued hope over a potential ‘phase one’ trade agreement between US and China to diffuse trade tension. Nevertheless, we opine that while there is a de-escalation of trade tension in the immediate future, monetary policy continues to be dominated by trade dispute and its implications on global and domestic economy. Hence, any deterioration in the relationship between the two major economies could inevitably lead to one rate cut in 2020. Closer to home, against the backdrop of a more modest global growth, we maintain our expectation for BNM to reduce the OPR by 25bps by 1H 2020.

Source: Hong Leong Investment Bank Research - 12 Dec 2019