Meeting notes from the March 2019 meeting of the Federal Open Market Committee (FOMC) suggest that the Fed’s narrative on interest rates has changed – it no longer thinks that containing inflation requires restrictive monetary policy. A change in the way the Fed considers interest rate increases has the potential to be very important for both markets and investors.

About Last December
In FOMC minutes released on April 10, 2019, Fed Chairman Jerome Powell backtracked on the December 2019 rate hike. “Judgments regarding the appropriate target range for the federal funds rate,” state the notes, “[have] shifted toward lower values.”1 It looks like the FOMC is admitting the December rate hike was a mistake. Historically, the Fed hates admitting errors – and Powell and his colleagues deserve kudos for recognizing one and not remaining stubborn.

Narrative Shift
Perhaps more importantly, the change in interest rate projections indicates that the Fed has recognized that persistently low inflation has become too much to ignore. The idea that unemployment remaining below its natural rate triggers inflation appears to be broken – and the Fed seems to have acknowledged this. It appears the Fed now thinks that it can hold unemployment low for longer without triggering inflation and without Fed policy becoming restrictive. Simply put, rates are likely to remain lower for longer than markets or investors might have previously expected.

The Zero Problem
Despite an implied commitment to lower rates, the Fed still desperately needs to avoid the lower zero bound interest rates it enacted in response to the Global Financial Crisis. Put another way, it needs to ensure that inflation stays sufficiently high to hold expectations at its target and act to avoid a recession. The policy implication is that they need to err on the dovish side – which could make a rate cut more likely in the near term than a rate hike.

A New Interest Rate Landscape
In its March meeting, Powell and the Fed indicated a rate hike would require an actual and persistent upward spike in inflation, rather than just a forecast of higher inflation. This means that the bar has shifted sharply higher for any future interest rate increases. It seems the Fed now wants to see evidence of destabilizing inflation – not just forecasted inflation – before it moves to raise rates. This is an important and significant shift for markets and investors.
1 Minutes of the Federal Open Market Committee March 19–20, 2019. Page 5. federalreserve.gov. Online.

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