Faced With Wild Card, Fed Keeps Rates Steady but Tweaks Statement

The Federal Reserve kept its benchmark interest rate steady on Wednesday amid a backdrop of slowly rising inflation, “solid” job gains and continued improvement in business and consumer confidence.

In a unanimous decision, as was widely expected, the U.S. central bank held its short-term federal funds rate steady between 0.50% and 0.75% at the conclusion of its two-day policy meeting in Washington. The Fed acknowledged underlying economic activity came from strength in the labor market as household spending and consumer confidence levels improved.

Policymakers, though, noted business fixed investment remained “soft” while the targeted 2% inflation level remained elusive. A gauge of personal consumption expenditures, the Fed’s preferred inflation gauge, remained steady at 1.7% in December from the year prior.

Still, the Fed tweaked its policy statement ever so slightly to reflect its view that inflation “will rise” to its 2% target in the medium term as members keep a close eye on inflation indicators and economic and financial-market developments. In its December statement, the Fed said inflation was “expected” to hit its target as transitory effects of past energy and import price declines dissipated and the labor market strengthened.

While the change in inflation language was just a little wordsmithing by the Fed, said Navy Federal Credit Union Chief Corproate Economist Alan MacEachin, the omission of energy price effects was meaningful.

“They’re no longer saying inflation is expected to increase as past declines in energy dissipate. The Fed is saying they have dissipated. And they’re not worried about further increases in energy, otherwise they would have said there could be some temporary effects from rising prices,” MacEachin said.

Odds of a rate rise at the Fed’s first meeting of the year stood at just 4%, according to federal funds futures, a tool used to predict market expectations for changes in monetary policy. Market participants aren’t pricing in at least one move higher in rates until the Fed’s June meeting.

What’s more, the Fed, which has become skilled at effectively signaling future intent on policy changes to the markets, remained silent about the potential for a rate hike at its meeting next month.

“If data doesn’t change much from where it is, March, I don’t think, is on the table,” MacEachin said. “Only some shocking data that would show a significant pickup in economic activity and inflation or a drop in unemployment would change their minds.”

The wild card for the Fed is potential fiscal policy initiatives coming down from the White House. President Donald Trump campaigned on promises to lower taxes and increase fiscal spending through infrastructure-investment programs. While Trump hasn’t outlined any specifics around those policies, they would help stimulate further economic growth, which could create a challenge for the Fed in keeping inflation from rising too high too quickly.

Still, the central bank made no permanent change to the language of its statement to include worries about fiscal policy’s impact on monetary policy.

“The Fed made no reference to the uncertainty surrounding upcoming fiscal policy changes, choosing to remain above the political fray,” said Bankrate.com Chief Financial Analyst Greg McBride. “But the Fed will have a difficult time raising interest rates further as long as there is guesswork about what the fiscal stimulus will look like.”

Minutes from the Fed’s January 31-Februrary 1 meeting will be released on February 22 and are likely to offer more insight into central bankers’ discussion.