Wall Street rallies as Fed sees interest rate 'just below' neutral

03 December, 2018, 04:30 | Author: Kevin Carter
  • U.S. President Donald Trump walks on the South Lawn after returning to the White House in the early morning hours from a trip to Mississippi

In a speech that comes in the wake of another volatile market selloff, Powell offered few clues on how much longer the USA central bank would continue tightening policy but he did say the policy rate, at 2-2.25 percent, is now "just below" the broad range of estimates of neutral, which in September was 2.5-3.5 percent. He also noted that the economy had yet to feel the full impact of the hikes.

In recent weeks, President Donald Trump has repeatedly attacked the Fed - and Powell personally - for their rate increases, which the president has blamed for any economic weaknesses or stock market turmoil.

Policy makers provisionally penciled in three quarter-percentage-point rate increases for next year, according to the median of forecasts released in September's so-called dot plot. "If you follow the dot plots as consensus, there should be two more hikes next year, though that is not guaranteed and will be data dependent", said Michael DePalma, chief executive, PhaseCapital LP. "Not even a little bit", Trump said.

The central bank's rate increases have gradually raised borrowing costs for consumers and businesses. Still, he said, "this dovish Fed lean is a fantastic cure-all for what ails stock markets sentiment". Commodity-producing and emerging countries led gains among currencies as traders bet the greenback may be close to its peak.

Tokyo's Nikkei 225 rose 0.4 percent to 22,262.50 and Sydney's S&P-ASX 200 added 0.6 percent to 5,758.40. The Fed's benchmark federal-funds rate since then has been between 2% and 2.25% - or just below the lowest estimate. He tried to dismiss as premature questions over whether the Fed would need to raise rates above neutral to a level aimed at slowing growth.

Speaking to the Economic Club of NY, the Fed chairman also said that while some corporate debt loads have reached riskier levels, "we do not see unsafe excesses in the stock market".

"The resulting drop in asset prices might be particularly large, given the valuations appear elevated relative to historical levels", the Fed cautioned in its report, which outlined a number of risks facing the American economy a decade after the financial crash.

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Economists are divided about what the Fed will do beyond December. Oxford Economics now predicts a single increase in 2019 while JP Morgan and Goldman Sachs see four.

"Fed policy makers appear to have made a decision to strike a somewhat more cautious tone as of late".

Powell said the Fed is paying "very close" attention to economic data even as it expects continued "solid" growth, low unemployment and inflation near its 2-percent target. The minutes showed a couple of participants felt the benchmark fed funds rate "might now be near its neutral level and that further increases in the federal funds rate could unduly slow the expansion of economic activity".

Daco said Powell's comments - coupled with comments from Fed vice chair Richard Clarida on Tuesday - show a "growing desire by the Fed to move the landing zone for the federal funds rate, and signal less cumulative tightening ahead". Investors have been bracing for higher interest rates in the face of possible inflation stemming in part from Trump's trade wars as well as the tax cuts he pushed through Congress late previous year.

And some economists say the markets misread Powell. Rather, we assume that Powell wanted to prepare the markets for a change in the central bank's communication.

Trump further took aim at Powell in a Wall Street Journal interview on Monday that mainly dealt with the trade conflict with China.

When interest rates are neutral, the economy is on a sustainable path. Deviations from neutrality can cause booms and busts.

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