Federal Reserve raises rates, expects three more hikes in 2018

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14 December 2017

thomasdodds

The Federal Reserve raised interest rates for the third time this year at its December meeting last night, as expected, while keeping its expectations for hikes in 2018 broadly unchanged.

T
he Fed’s statement was little altered from the previous meeting, flagging a ‘strong’ labour market and growth in household and business spending. The latest ‘dot plot’ also continues to show that policymakers expect another three hikes in 2018 and two in 2019, unchanged from September.

However, the greenback fell against most of its major peers yesterday, with FX markets focusing on the two members of the committee that voted to keep rates steady. Given the two and well known doves, we think the reaction was somewhat unwarranted and with the markets still only pricing in two hikes in 2018, there is scope for an appreciation in the greenback next year.

Earlier in the session, the Dollar was pegged back against the Euro following the release of a slightly disappointing set of inflation figures in the US. Headline inflation rose to 2.2% in November, as expected. There was, however, a modest decline in the core measure which slowed to 1.7%, putting it further below the Fed’s 2% target.

In the UK, the latest labour report was contrastingly encouraging. The unemployment rate remained unchanged at 4.3% after investors had eyed a 4.2% reading, still its lowest level since 1975. Average earnings growth also ticked up to 2.5% including bonus, what would be a fairly encouraging number absent the recent inflation bounce.

Bank of England and European Central Bank to both meet today

Attention in the currency markets will quickly turn to two additional central bank meetings among the major economies today.

First up, we’ll have the latest monetary policy announcement from the Bank of England at midday. The bank raised its main interest rates for the first time in over a decade at its most recent meeting in November and there is no reason whatsoever for it to alter policy in any form again today. We think the vote on rates is almost certain to be unanimous and currency traders will instead be more interested in the tone of the meeting minutes. Since the November meeting there has been little change in economic conditions in the UK and with the EU summit also this week, the cautious stance on additional rate hikes is likely to be reiterated. Overall we do not think today’s BoE meeting will be a big mover for the Pound, which could instead be influenced more by external factors.

This afternoon’s European Central Bank meeting is not necessarily expected to deliver any fireworks. Similarly to the BoE, the ECB delivered a fairly meaningful policy decision at its latest meeting, announcing both an extension and reduction in monthly purchases to its quantitative easing programme. With that in mind, investors will be keeping an eye on the bank’s latest growth forecasts which are likely to be revised somewhat higher following a recent bout of impressive economic data. Aside from that, we expect President Mario Draghi to maintain his relatively dovish tone, reiterating that interest rate hikes remains some way off and beyond the horizon of asset purchases.