Our theme for the FOMC in 2017 has been, “Back to the plan, with a steadier hand.” The “plan” is a gradual increase in the fund’s rate, meaning a total of three or four hikes this year. The “steadier hand” refers to a Committee that is more reluctant to deviate from the plan because of data surprises or financial market volatility that do not alter the FOMC’s view of the underlying fundamentals. We saw this statement as being consistent with a steadier hand, and perhaps an even steadier hand than we would have anticipated. Indeed, we have raised somewhat further our probability of a hike in June, to 70%.
As we have argued, the FOMC needed to acknowledge recent data surprises. We also anticipated that they would “recognize and downplay” those surprises, and they did just that. First, the almost mandatory recognition, followed by the downplaying (italics our emphasis):
▪ Of very weak growth in Q1: “growth in economic activity slowed.”
▪ Of the March employment report: “Job gains were solid, on average, in recent months.” By adding the “on average” language, the FOMC acknowledged that the March payroll gain was not so solid. ▪ Of the March inflation data: Core inflation “declined in March.” Referring to a single monthly data point like this is very unusual.
However, they downplayed each of these data surprises, especially about growth, and perhaps a bit more aggressively than we expected.
▪ The major weak spot in Q1, other than inventories, was consumer spending. So, after recognizing that household spending “rose only modestly,” the statement continued, “but the fundamentals underpinning the continued growth of consumption remained solid.”
▪ They carried the theme of downplaying the slowing in growth further in the second paragraph, which covers the outlook: “The Committee views the slowing in growth during the first quarter as likely to be transitory and continues to expect that…economic activity will expand at a moderate pace” (our emphasis). Noting that slow growth is expected to be transitory in the more forward-looking second paragraph is not unprecedented, but it reinforces the message that the recent weakness has not appreciably altered their outlook for economic activity.
▪ On the labor market, the first words were that “the labor market has continued to strengthen,” and that came before they even mentioned the slow growth in economic activity. Remember, the FOMC sees employment growth as a more reliable measure of the underlying momentum in economic activity than the GDP report itself (a view that we share).
▪ Indeed, the change to the language because of the smaller March payroll gain put as little emphasis as possible on that one data point. Message: March payroll gains may have been soft, but the FOMC still sees the trend as “solid.”
▪ The statement was most explicit about the inflation data, and that perhaps indicated that this was the report that raised the most eyebrows. They recognized that core prices “declined in March.” In this case, they downplayed that development by going into no further detail and retaining the rest of the language about core inflation, which was that it “continued to run somewhat below 2 percent” (our emphasis). They are communicating that inflation has their attention, but that they are not yet seriously concerned.
So the FOMC is signaling that policy will be made with a steady hand—if anything, an even steadier hand than we’d thought. The statement increased the probability we attach to a hike in June from about 60% to about 70%.