The Federal Reserve’s Open Market Committee kicked off its two-day policy meeting Tuesday and both U.S. markets and the dollar climbed in response. Little policy change is expected this time around but analysts believe Fed Chair Janet Yellen will take a hawkish turn during Wednesday’s announcement and press conference. The general consensus seems to be that she’ll signal an impending rate hike in September.
“The case for a hike in September is quite compelling especially given recent economic data in the United States,” says Tony Crescenzi, executive vice president at Pimco. The U.S. added 280,000 jobs in May, an indicator of strong growth according to Crescenzi. He also points to a rebound in retail sales. “Consumers seem to be spending a bit more.” These numbers make a strong case for the Fed to decide it no longer needs the emergency policy rate it has had in place for the past six years.
Pimco believes that markets are underestimating the full extent of the rate hikes that will occur in the first year after the initial hike, but that their long-term perspective is correct. “Markets are priced for the Fed to move its policy rate from zero to 2.5% two to three years from now,” says Crescenzi. “But for the next year markets are thinking the policy rate will be 50-57 basis points less than we think and less than what the Fed thinks.”
Rates won’t go much higher than 2.5%, Crescenzi tells Yahoo Finance, in part because of the aging of the U.S. population. “More of us Baby Boomers are retiring,” he says. “We’re not in factories or offices. We’re not producing, and so it reduces the U.S. growth rate.” Credit growth is also slower than it was pre-crisis, which will ease the need to push rates.
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