Fed scales back rate-rise forecasts amid global risks

The Federal Reserve has scaled back its interest rate forecasts to two quarter-point rises this year, coming closer into line with market expectations as it flagged up risks to the US outlook from global financial and economic developments.

The Fed’s more dovish outlook makes it less out of step with other central banks which are still intent on further monetary loosening to lift consistently low inflation and offset weaker global growth.

Janet Yellen, the Fed chair, told a press conference that proceeding cautiously would "allow us to verify the labour market is continuing to strengthen despite the risks from abroad".

“Such caution is appropriate given short term interest rates are still near zero, which means monetary policy has greater scope to respond to upside than downside changes in the outlook,” she said.

Clouded outlook

The US central bank kept its target range for the federal funds rate unchanged at 0.25 per cent to 0.5 per cent, holding fire for a second meeting following its landmark quarter-point rate rise in December 2015.

Ms Yellen in December set the Fed on a course of gradual increases in short-term rates, with policymakers at that time forecasting four quarter point rises over 2016. But the outlook became clouded earlier this year by plunging commodity and stock prices, haphazard policymaking in China, and worries over weaker global growth.

Yesterday, Fed rate-setters signalled they want to steer a more cautious course amid uncertainty over the strength of global growth. This came despite a broadly positive assessment of the US economy’s performance, noting that inflation had picked up, the labour market was strengthening, and the economy had continued to expand moderately despite the hazards overseas.

Despite recent improvements in markets, the statement noted “global economic and financial developments continue to pose risks”.

The central bank added that inflation was expected to stay low in the medium term, before rising towards its 2 per cent target.

Dovish stance

“It’s a pretty sizeable reassessment,” said Gregory Peters, a bond fund manager at Prudential, the US insurance company.

The Fed’s more dovish stance on interest rate increases sent the two-year Treasury yield sliding from 0.98 per cent to 0.87 per cent, and erased the S&P 500’s earlier loss to lift it 0.5 per cent on the day.

The US stock market has now clawed back almost all the losses from January and February’s turmoil.

The dollar had started the day on a strong footing but slid 0.9 per cent against the euro to $1.12.

Markets see only a 22 per cent chance of the Fed raising rates twice this year, and a 6 per cent possibility that it lifts rates three or more times in 2016, according to Bloomberg calculations from interest rate futures.

– (Copyright The Financial Times Limited 2016)