The big question after the May FOMC statement was "how symmetric is The Fed's reaction function" to inflationary upside, i.e. how much will the Fed allow inflation to overshoot, and how much attention are they really paying to the collapsing yield curve? And as Bloomberg noted, a key focal point of the minutes will be to further distinguish the main thresholds separating the three- and four-hike camps in the 2018 dot plot.
Former fund manager Richard Breslow wrote in his Trader's Notes column earlier:
"I expect there is a decent chance that the FOMC minutes we’re going to see this afternoon read on the hawkish side. What a difference a few weeks make. Way back then Fed-speak was clearly trending to the upbeat side and they were getting even more hopeful on the inflation side of the dual-mandate."
But it appears The Fed walked the tightrope on "symmetry" by showing a hawkish tilt:
- *MOST FED OFFICIALS SAW NEXT RATE HIKE LIKELY APPROPRIATE `SOON' - So June is a lock!
- *SOME OFFICIALS SAW FORWARD-GUIDANCE REVISION APPROPRIATE SOON
Mixed with a whole lot of dovishness.
- *FED MINUTES NOTE MODEST INFLATION OVERSHOOT `COULD BE HELPFUL'
In other words, yet more of the schizophrenic Fed we know so well, which will "hike soon", but is willing to let inflation overshoot "modestly."
Here is the quote for the hawks:
"Most participants judged that if incoming information broadly confirmed their economic outlook, it would likely soon be appropriate for the Committee to take another step in removing policy accommodation''
And for the doves:
It was also noted that a temporary period of inflation modestly above 2 percent would be consistent with the Committee’s symmetric inflation objective and could be helpful in anchoring longer-run inflation expectations at a level consistent with that objective.
In other words - we'll keep hiking slow and steady, while CPI hits 3% or more, until something breaks.
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Below are selected excerpts from the FOMC meeting minutes that concluded on May 2 (via Bloomberg):
On the coming rate hike and removing accommodation:
"Most participants judged that if incoming information broadly confirmed their current economic outlook, it would likely soon be appropriate for the Committee to take another step in removing policy accommodation."
"Overall, participants agreed that the current stance of monetary policy remained accommodative, supporting strong labor market conditions and a return to 2 percent inflation on a sustained basis."
... BUT here is why CPI will overshoot 2% and may hit 3% or more:
"A few participants commented that recent news on inflation, against a background of continued prospects for a solid pace of economic growth, supported the view that inflation on a 12-month basis would likely move slightly above the Committee’s 2 percent objective for a time."
"It was also noted that a temporary period of inflation modestly above 2 percent would be consistent with the Committee’s symmetric inflation objective and could be helpful in anchoring longer-run inflation expectations at a level consistent with that objective."
"In their discussion of the outlook for inflation, a few participants also noted the risk that, if global oil prices remained high or moved higher, U.S. inflation would be boosted by the direct effects and pass- through of higher energy costs."
Next, a discussion of the flatter yield curve, which many FOMC members have warned about recently:
"Participants pointed to a number of factors contributing to the flattening of the yield curve, including the expected gradual rise of the federal funds rate, the downward pressure on term premiums from the Federal Reserve’s still-large balance sheet as well as asset purchase programs by other central banks, and a reduction in investors’ estimates of the longer-run neutral real interest rate."
"A few participants noted that such factors could make the slope of the yield curve a less reliable signal of future economic activity."
"However, several participants thought that it would be important to continue to monitor the slope of the yield curve, emphasizing the historical regularity that an inverted yield curve has indicated an increased risk of recession."
On a potential change to forward guidance:
"Participants commented on how the Committee’s communications in its postmeeting statement might need to be revised in coming meetings if the economy evolved broadly as expected."
"Some participants noted it might soon be appropriate to revise the forward-guidance language in the statement indicating that the ‘federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run’ or to modify the language stating that ‘the stance of monetary policy remains accommodative.’"
On the threat of trade wars:
"With regard to trade policies, a number of participants viewed the range of possible outcomes for economic activity and inflation to be particularly wide, depending on what actions were taken by the United States and how U.S trading partners responded."
"Some participants observed that while these policies were being debated and negotiations continued, the uncertainty surrounding trade issues could damp business sentiment and spending."
"It was noted that the potential for higher Chinese tariffs on key agricultural products could, in the longer run, hurt U.S. competitiveness."
On the change in the economy since the last meeting:
"All members viewed the recent data as indicating that the outlook for the economy had changed little since the previous meeting."
Finally on elevated asset prices:
Asset valuations across a range of markets and leverage in the nonfinancial corporate sector remained elevated relative to historical norms, leaving some borrowers vulnerable to unexpected negative shocks
* * *
Since the May 2nd FOMC statement, while the dollar is flat, stocks have handily outperformed as bonds and bullion have been sold...
And while bond yields have risen across the curve, the yield curve has actually flattened since the last FOMC meeting...
The odds of four or more rate hikes in 2018 (meaning at least 3 more) is now above that of just 3 hikes in the year...
But a June hike is all but guaranteed...
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Full FOMC Minutes below (pdf link):