Today's FOMC announcement is one which has taken on a greater significance for a number of reasons - one of the more obvious ones being widespread expectations on signalling the start of the balance sheet reduction process in October.
Chair Yellen and her committee are ever keen to prep the market for intended policy measures, and on this front they and the market are both ready.
Of greater significance is the inclusion of the Summary of Economic Projections, including the Fed Funds, where the dot plot has been aggressively challenged by the market to the point where the recent low (in expectation) was pointing to 1 and a half hikes over the next 18 to 24 months. All the immediate focus is on whether we get a another move by December this year, and there we have known dissenters in the likes of Kaplan and Kashkari, but central to this (normalisation) process, is the quest to tame another form of inflation: the stock markets. Relentless gains have taken the leading indices on Wall St to yet more record highs, and the belief the Fed can let the equity market down gently is slipping further and further away from their grasp the longer they wait
This is the crux of the debate within the committee, and on this basis, expectations on what the dot plot will reveal is a very tough one to call - with scope for both hawks and doves be disappointed this time around.
Some look to the latest upturn in the inflation as a blip in what they see as a developing trend, others see the recent downtrend as the outlier - on balance, the Fed may err on the side of the latter - we know the Fed chair, Fischer and Dudley conform to this. Can they persuade consensus that way? The hawks will point to low unemployment, which should (repeat should) lead to some wage inflation, but the doves will cite productivity, though this has also improved lately. In either case, our view is that at 1.6% or 1.8% or 1.9%, CPI is still pretty close to the 2.0% mark and that some of the pessimism has been overstated - certainly if you look to comparative rates elsewhere in the world. Core rates have been pretty stable at 1.6% to 1.7% over recent months, so again, inflation hopes may be a little enthusiastic - Japan can only dream of such levels.
Adding to uncertainty has been the Hurricane season reeking havoc across the south, and the Fed will have considered the short term effects on the economy, which is net dovish on policy response, but not one we believe will have a material impact on what the Fed is trying to achieve in the longer term.
Going into the meeting, we have seen some USD downside to modest degree, but from here, its all eyes on the dot plot, and despite stretched levels, we cannot rule out yet another hit. Focus will be on the shorter end of the yield curve for clarity on sentiment, with the 10yr having found some support at 2.00%. 2-5yr is where we will be looking to over tonight's proceedings.
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