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Fed Moves Firmly to Sidelines, Powell Sticks to Script

RFP
The Federal Open Market Committee (FOMC) hit all the right notes in its statement today. The economy is “solid” and the labor market is still strong. The Fed has fully pivoted to embrace patience and is not likely to raise interest rates anytime soon. The central bank also underscored that it is awake at the wheel, watching financial markets and growth abroad. The markets welcomed this sentiment.

The Fed also stressed flexibility when dealing with its balance sheet. In its statement, it revised its language to say that although it still considers the fed funds rate its primary tool, it would not hesitate to adjust its balance sheet if economic conditions warranted. The Fed is also re-considering what the optimal size of the balance sheet should be.

Chairman Powell started his comments highlighting the Fed’s primary goals of extending the length of the expansion and allowing the labor market to remain strong. Notably absent was concern about inflation, which is more muted than the Fed had expected at this phase of the expansion. This was a well-designed message to financial markets and the administration; the Fed is not trying to kill the expansion.

Powell also underscored the Fed’s conundrum. What little data currently available on the economy is still strong, but “cross currents” are emerging. He cited concerns about Brexit, trade tensions, the possibility of another government shutdown, and slower growth in China and Europe as downside risks. In response, the Fed’s actions to pause and be more flexible about its balance sheet represents prudent risk management. He stressed that the baseline forecast for moderate slowing from strong growth last year remains intact reflecting the Fed’s pivot.

Powell artfully dodged questions on specifics in the press conference and stuck to his script of patience and flexibility; he was clearly well prepped. Chairman Yellen was known to prep at length for press conferences, which is one of the reasons she was reluctant to have one after every meeting. Powell is now following her lead; he has proven himself to be a quick learner, after the December missteps. He doesn’t want to box the Fed in. Frankly, if he had given detailed answers to the questions asked of him, he could have risked sending the wrong message to markets. His job was to walk a tightrope, balancing a solid outlook for growth against the emerging headwinds. He did just that.

Bottom Line
The Fed completed its pivot today from planning its next rate hike to sitting firmly on the sidelines, with a willingness to open the door to additional accommodation if needed. The central bank also showed that it has learned from past mistakes. It knows the economy is still in uncharted waters with regard to how it will respond to monetary policy. The Fed will not be blamed for the next recession. It also may not be able to prevent it unless political leaders in Washington and abroad make a concerted effort to de-escalate when it comes to trade, and provide a sense of predictability on policy decisions.

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