Fed Expects No Rate Hikes in 2019 and End Quantitative Tightening

The US Federal Reserve (US Fed) left its Federal funds rate (FFR) unchanged in the range of 2.25-2.50%, as widely expected. The FFR has been kept at this range since its last 25bps rate hike in the December FOMC meeting. According to the latest Fed dot plot analysis, FOMC members now expect possibly no rate hikes in 2019, compared to its previous expectation of one or two rate hikes this year, signalling Fed’s patience as well as dovish outlook for the year. On the economic front, the Fed guided that “growth of economic activity has slowed from its solid rate in the fourth quarter” due to slower growth of recent indicators, which suggest household spending and business fixed investment will be weak in 1Q19. This compares to its previous statement in January where it noted that economic activity was expanding at strong rate.

In the latest FOMC Summary of Economic Projection, the Fed also lowered its GDP growth forecast from the December FOMC meeting, from 2.3-2.5% to 1.9-2.2% in 2019. The unemployment rate is also projected to be higher, where it was revised upwards to 3.6-3.8% from 3.5-3.7%, previously. On the inflation outlook, the median expectation of PCE inflation was lowered by 0.1 percentage point to 1.8% from 1.9% while core PCE inflation projection was maintained at 2%. As for the balance sheet, it was a surprise announcement, as the Fed guided that beginning May 2019, the amount of Treasuries allowed to mature without reinvesting will drop to US$15bn compared to US$30bn currently. The Fed also noted that the balance sheet reduction will conclude in September 2019. From October, it will not reduce its holdings of Treasury securities, while continuing to runoff Mortgage Backed Securities at US$20bn a month. Recall that the balance sheet reduction began on October 2017 at a size of US$4.5trn has now been reduced to around US$4trn in March 2019.

We believe the signal of patience on rate hikes and dovish tone of the Fed on monetary policy is warranted, as US economic growth is projected to slow in 2019, following its robust growth of 2.9% yoy in 2018. We believe the reasons could be the fading fiscal stimulus and possibility of higher trade tariffs, especially if US and China do not reach a deal soon, as well as a slew of weak economic data pointed to some slowdown in US economy, such as manufacturing output, which fell for the second consecutive month in February by 0.4% mom (-0.5% in January). Nonfarm payrolls only added 20k jobs in February (311k in January), its lowest rate since September 2017, partly seasonal. On the inflation front, although the Fed’s had revised downwards its PCE inflation forecast, core-PCE is still anticipated to be stable as reflected in December’s reading of core-PCE which was steady at 1.9% yoy for the second consecutive month. Amid uncertainties on the external front and slower US economic growth, we are maintaining our view that the US Fed will continue to be data dependent as it determines its future monetary policy path.

Source: Affin Hwang Research - 21 Mar 2019