As expected, the FOMC maintained the policy rate at 0.00-0.25%. The Fed upgraded its economic projections but expects to maintain the target rate at this level through 2023 until labour market conditions have reached levels consistent with Committee’s assessment of maximum employment and inflation moderately exceed 2.0% for some time. These changes underlie Fed’s strong commitment over a longer-time horizon.

DATA HIGHLIGHTS

The FOMC maintained the interest rate at 0-0.25%. In this meeting, the Fed said it expects to maintain the target rate at this level until labour market conditions have reached levels consistent with the Committee’s assessment of maximum employ ment and inflation has risen to 2.0% and is on track to moderately exceed 2.0% for some time so that longer-term inflation expectations remain well anchored at 2.0%.

On economic outlook, the committee assessed that economic activity and employment have picked up in recent months but remain well below their levels at the beginning of the year. Weaker demand and significantly lower oil prices are holding down inflation. The statement noted that overall financial conditions have improved, in part reflecting policy measures to support the economy and the flow of credit to households and businesses. Going forward, the path of the economy will depend significantly on the course of the virus. The ongoing health crisis will continue to weigh heavily on economic activity, employment, and inflation in the near term, as well as pose considerable risks to the economic outlook over the medium term.

The Fed expects real GDP to contract by 3.7% YoY (June projection: -6.5% YoY) and recover in 2021, albeit at a shallower pace (+4.0% YoY; previous: +5.0% YoY). On unemployment rate, the Fed anticipates it to average to 7.6% (previous: 9.3%) and improve but remain high at 5.5% in 2021 (previous: 6.5%). On inflation, the Committee is forecasting a modest growth of +1.2% YoY (previous: +0.8% YoY) and +1.7% YoY in 2021 (previous: +1.6% YoY), still below the Fed’s target of 2.0%. Likewise, core inflation is anticipated to increase by 1.5% YoY (previous: 1.0% YoY) and improve modestly to 1.7% YoY (previous: 1.5% YoY) and only reach 2.0% in 2023. Almost all Fed’s policymakers foresee no rate hikes through 2023 (previous: 2022). In 2020 and 2021, all FOMC members expect rates to remain at this level. In 2022, all but 1 FOMC member anticipate rate to remain unchanged. In 2023, 4 FOMC members expect rates to increase while the others forecast it to remain unchanged.

There was no change to the Fed’s stance on asset purchases, as the Federal Reserve will increase its holdings of Treasury securities, agency residential and commercial mortgage-backed securities at least at the current pace.

All voting members were in favour of this policy action except for 2 members. Robert Kaplan prefers the Committee to retain greater policy flexibility while Neel Kashkari prefers the Committee to maintain the current range until core inflation has reached 2.0% on a sustained basis.

HLIB’s VIEW

Despite the upgraded economic forecasts for GDP, employment and inflation, the Fed further enhanced its dovish position by providing forward guidance on its intent to maintain the rate at current low levels through 2023. This is against a backdrop of unemployment rate falling to 4.0% (current: 8.4%; pre-Covid: 3.5%), and inflation rising to 2.0% in 2023. This underlies the strong commitment to maintain a dovish stance over a longer-time horizon. In Malaysia, we expect BNM to maintain the policy rate at low levels until 2021.

Source: Hong Leong Investment Bank Research - 17 Sept 2020