My colleagues and I on the Northern Trust Fixed Income Team spend a significant amount of time analyzing macroeconomic scenarios and their potential implications for the portfolios we manage. This is a key element of our investment process. So, we were more than a little excited when we heard Federal Reserve Chair Jay Powell speak yesterday at his press conference about different “paths” or scenarios for the U.S. economy and their potential implications for U.S. monetary policy. To us, his chosen scenarios shed light on the Fed’s inclinations and the outlook for interest rates. Let’s take a closer look.
Chair Powell acknowledged that inflation surprised to the upside in the first quarter but maintained his personal forecast that inflation will move back down over the course of this year. Addressing future uncertainties, he laid out three possible scenarios for the U.S. economy, starting with what appears to be his “base case” scenario. This scenario closely mirrors his own forecast, featuring a downward trend in inflation that would give the greater confidence to start cutting rates.
In the two other scenarios outlined by Powell, the economic outcomes diverge from his personal forecast. We will call them “risk cases.” The first risk case involves inflation proving more persistent than expected, with the Committee gaining no greater confidence that inflation is heading to 2 percent sustainably. He noted that this scenario “would be a case in which it could be appropriate to hold off on rate cuts.” The second risk case scenario features “an unexpected weakening in the labor market,” in which case, he said, cutting rates could be appropriate.
We saw a dovish slant to Powell’s two risk cases, particularly as , which he characterized as “unlikely.” We took Powell’s consideration of labor market weakness as consistent with the FOMC’s assessment that the risks to achieving its maximum-employment and price-stability goals are becoming more balanced.
Although Powell avoided specific timelines, we drew some timing clues from other remarks he made at the press conference. For instance, he noted that following higher-than-expected inflation in January and February, the Committee “reserved judgment” until it “had a full quarter’s data.” Using this simple metric and taking into account the significant progress we saw on the inflation front last year, it seems to us that a rate cut in September remains on the table. By then, the FOMC will have seen another quarter’s worth of data, plus inflation readings for July.
The Federal Open Market Committee (FOMC) of the Federal Reserve holds eight regularly scheduled meetings a year to review economic and financial conditions and determine monetary policy. It sets the federal funds rate target, which is achieved through open market purchases by the Federal Reserve and has a broad impact on interest rates in the financial system and the economy. The committee consists of 12 members from regional reserve banks.
No Rate Changes in Powell’s Macroeconomic Scenarios
In his latest remarks, Federal Reserve Chair Jay Powell spoke about different “paths” or scenarios for the U.S. economy and their potential implications for U.S. monetary policy, none of which included rate hikes or cuts.
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Antulio N. Bomfim
Head of Global Macro – Global Fixed Income
Antulio Bomfim, head of global macro for the global fixed income team, oversees interest rate strategy, systematic volatility, liquidity and monitoring of systemic risk globally. He is also responsible for the firm’s global liquidity management business.
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