Tuesday, 14 December, 2021
FOMC – Bank Views
BoA (Cabana, Axel): There will be 3 key points of focus at the Dec FOMC:
(1) taper acceleration
(2) SEP & dot plot, which will show a pull forward of hikes
(3) balance sheet discussion & hints of QT. We expect the Fed to double the speed and reduce monthly TSY purchases by $20bn and MBS purchases by $10bn. The updated dot plot will likely reveal a pull forward in the dots, with a median trajectory of 2 hikes in 2022, and 3 hikes each in both 2023 and 2024. Chair Powell is likely to highlight rising inflation risks but may be noncommittal about the timing of rate hikes and point to Omicron uncertainty. We believe the December FOMC meeting communications will be seen as hawkish on balance, even if ’22 hikes are projected below the market. The taper acceleration will clear the way for a potential rate hike in March. We still recommend clients pay Mar ’22 FOMC OIS and short 2Y rates while seeing more room for ’23 to price hikes. These front-end dynamics will likely exert further flattening pressure on the curve. Monetary policy tailwinds driving the US dollar higher this year are unlikely to dissipate after this FOMC meeting. FX price action should reflect the Fed’s likely hawkish tone, punctuated by increased attentiveness regarding the unpopular surge in inflation and Chair Powell’s likely admission that rate hikes are more proximate than before, despite his continued separation of taper completion (March, in our view) and rate liftoff
Citi: Economists’ base case remains for a first hike in June, and then quarterly rate hikes until rates reach around 2%. For this meeting’s dot plot, they anticipate a median for two rate hikes in 2022 with three more in 2023 and a median for rates reaching around 2.5% (the Fed’s estimate of terminal) in 2024. Close to three 2022 rate hikes priced and a widely expected acceleration of tapering from $15bln/mth to $30bln/mth limits remaining hawkish risks – but some remain. With asset purchases concluded in March, Chair Powell might use the press conference to signal that the March meeting is “live” for a rate hike – a scenario markets put low probability on.
CS (Cohn): We expect the Fed to announce an acceleration of its current tapering plan, increasing the current pace of monthly reductions to $20bn and $10bn for UST and MBS, respectively. We expect this acceleration to begin in the mid-January 2022 purchase schedule and result in an end to asset purchases in mid-March 2022. Economic forecasts ought to reflect a faster decline in the unemployment rate and high inflation lingering longer than previously projected, with upward revisions in the latter for next year. In terms of risk assessments around inflation, a continuation of the elevated upside risk characterization appears to be both consistent with recent data and rhetoric, as well as with market-implied inflation expectations
DB (Ryan): We expect the Fed to announce a doubling in the pace of tapering at the December FOMC meeting, bringing the monthly drawdown to $20bn and $10bn per month for Treasuries and MBS, respectively. This would conclude the tapering process in March and open up greater optionality for an earlier liftoff. The signal from the dot plot should be consistent with a baseline of earlier rate increases, with the 2022 median dot likely showing two rate hikes with risks of more. The statement and Chair Powell’s press conference could mark a pivot point for the Fed’s communications on inflation and the timeline for tightening. Consistent with the Chair’s recent comments, we expect the statement to retire the word “transitory” but continue to signal that inflation should eventually moderate. We also expect to hear that the inflation threshold for liftoff has been satisfied, putting the entire burden on the achievement of broad-based and inclusive maximum employment.
Jefferies (Markowska, Simons): In light of recent misses in inflation and unemployment forecasts (particularly on inflation) the Fed is clearly under pressure to respond. We expect them to do so, by: Accelerating the pace of tapering from $15bn/month to $30bn/month (a done deal), Removing the reference to “transitory” inflation in the FOMC statement (a done deal), Showing two hikes in 2022 on the Summary of Economic Projections. That said, we don’t think the Fed will go as far as to validate the early rate hike expectations currently priced into the curve. The market is already fully priced for three hikes, starting in June, and is implying ~40% probability of a March hike. We believe that’s too aggressive and expect the Fed to gently push back against those expectations. We believe they will do so by: Retaining the current rate guidance which ties liftoff to maximum employment; Showing only two 2022 hikes on the dot plot; By underscoring (during the press conference) that accelerating the taper creates optionality to hike early, but the Fed is not committing to exercising that option. The main reason for pushing back is that the fed funds trajectory currently priced into the curve is not consistent with the Fed’s new framework.
JPM (Feroli): At the conclusion of next week’s FOMC meeting we expect the Committee will decide to speed up the pace of tapering to a $30 billion per month reduction in the monthly pace of asset purchases, which would see the conclusion of those purchases in mid-March. For the median interest rate forecast “dot” we think it’s a close call between looking for two or three hikes in ’22, but think three is a little more likely. We are also adjusting our own forecast, now expecting liftoff in June (previously Sept), followed by a quarterly pace of hikes thereafter. While attention will likely focus on the ’22 median dot, we think the message from the following years will also be important. We expect the median dot at the end of the forecast horizon in ’24 will be close to the median estimate of the neutral rate, 2.5%, though we think a case could be made that policy should be somewhat restrictive by then. Partly motivating this speedier normalization of policy will be the revisions to the economic forecasts, which we expect will generally show lower projections for the unemployment rate and higher ones for inflation. We think the most notable change to the statement will relate to inflation, where “transitory” will be replaced with a more detailed description of inflation developments. We continue to expect that rate hikes will precede balance sheet runoff, as in the last cycle, and think there is a chance Powell could mention this in the press conference.
GS (Hatzius): The Fed is very likely to double the pace of tapering to $30b/month putting it on track to announce the last two tapers at the Jan FOMC meeting and to implement the last taper in March. GS expect 3 rate hikes next year (in May, June, November). New information about both inflation and labor markets since the last meeting supports a faster taper and an early liftoff. Inflation has increased further as prices of durable goods and shelter have continued to rise rapidly, through wage growth has slowed since enhanced benefits expired in Sept. Labor market slack has diminished rapidly. GS expect the SEPS to show somewhat higher inflation and lower unemployment. Their best guess is that the dots will show 2 hikes in 2022, 3 in 2023, and 4 in 2024, for a total of 9 (vs 0.5/3/3 and a total of 6.5 in Sept). GS think Fed leadership will prefer to show only 2 hikes in 2022 to avoid making a more dramatic change in one step, especially at a meeting when the Fed is already doubling the pace of taper.
NWM (Cummins): we expect officials will double up the monthly pace and end the taper in midMarch rather than mid-June. We expect the FOMC statement as well as the Fed Chair’s press conference will emphasize that the decision to accelerate the taper allows officials to be in a better position to make adjustments to the funds rate, particularly in light of inflation pressures. Since we are assuming the FOMC is pulling up the taper, our timeline for rate hikes has similarly adjusted. We now expect liftoff to begin in Q3 2022 (instead of Q4) and expect two hikes (instead of one) in 2022. We continue to look for a gradual hiking cycle—two hikes in 2022 and four hikes (once per quarter) in 2023 and four more in 2024. We think most of the FOMC’s dots are likely to go up a quarter of a point for 2022, implying two rate hikes rather than one move envisioned by many FOMC members last quarter. Perhaps the bigger question is whether the 2023 dot will stay at 3 hikes (as was indicated in September) or show one less hike in 2023 to compensate for the likely added hike in 2022. Our guess is that the 2023 forecasts will now show “only” two hikes in order to show the same amount of (gradual) rate hikes by the end of 2023 (four in total) as was indicated in September, but that’s a close call. Some FOMC members may feel that the inflation backdrop will be a reason to tighten a little faster next year, and will still pencil in three rate hikes for 2023 rather than two. However, despite the hawkish tilt of pulling forward the taper plans, we suspect Chair Powell will emphasize flexibility and uncertainty and point to the dot plot as evidence that the fundamental view among the overall Committee hasn’t changed even though they expect another hike in 2022.
RBC (Gwinn): I expect the Fed to increase the pace of the taper to $20bn UST and $10bn MBS per month (up from $10bn/$5bn, respectively). At this pace, asset purchases should come to an end just before the March FOMC meeting. This indicates a clear shift in the Fed’s thinking around the inflation outlook over the last six weeks, given that the initial pace of $10bn/$5bn per month was only just set at the November 3 FOMC meeting. The shift in the SEP “dots” may be even more extreme given that the last update was back in September. At the time, the committee was split on whether the Fed would hike at all in 2022, with the median showing only half a hike. This time, I expect the median dot will show two hikes in 2022, with some possibility of even showing three. It’s worth noting that a three hike swing in a median dot, from one SEP to the next, would be unprecedented. The Fed has changed course on expected cuts that quickly, but never on hikes. Even a two hike swing in the median dot has only happened several times, and only in the forecasts for out years (never for the coming year). So that should give you some context for how monumental the shift in the Fed’s policy stance could be over the last few months. Beyond 2022, I expect that the 2023 and 2024 medians will continue to show a three-hike per year pace from the higher 2022 base, at 1.375% and 2.125%, respectively. But the risk here is also likely towards more, rather than less. But even if the slope doesn’t shift at this meeting, I do expect more hikes will eventually find their way into the 2023/2024 medians over the next few releases as 2022 essentially becomes “maxed” out and the Fed continues to work in additional hikes.
Wrightson (Crandall): The Summary of Economic Projections (SEP) is likely to indicate that most FOMC members expect inflation to move down substantially over the forecast horizon, which would seemingly still qualify them as undercover members of “Team Transitory”. Our guess is that the median FOMC projection for year-end 2022 in the dot plot will imply two rate hikes next year, but it’s a close call. In September, the committee was evenly divided between those who expected two rate hikes next year and those who anticipated either one or none. As a result, the reported median in the SEP called for a rate hike of just an eighth of a point in 2022. SEP forecasts tend to evolve gradually from one quarter to the next, and we would not rule out the possibility that the median might call for just one move next year or imply another split decision for 2022 (evenly divided between one and two hikes this time rather than one or none). A sluggish adjustment in FOMC member forecasts this week would not necessarily suggest that the committee would be unwilling to respond if the inflation outlook remains threatening after the turn of the year. The Fed has left little doubt that it will accelerate the phase-out of its asset purchases at this week’s meeting. Like many market participants, we expect the FOMC to double the size of its monthly QE cutbacks from $15 billion to $30 billion starting with the January purchase cycle. If so, the Fed’s net asset purchases would fall to zero in March, clearing the way for an early rate hike in the first half of next year if necessary.
SGH Macro (Tim Duy): “We know the Fed has turned hawkish, and the dot plot will reveal just how hawkish.” The question for this week is not if the Fed will be hawkish. At this point, it is well understood that the Fed made a hard pivot toward hawkishness in recent weeks. The question is how hawkish will the Fed be? This is almost a whole new ballgame since Federal Reserve Chair Jerome Powell shifted the narrative and signaled that the just-begun tapering would be accelerated at this week’s meeting. Some market participants may have gotten ahead of the Fed and will be disappointed if the Fed does not validate an aggressively hawkish policy outlook. The Fed will accelerate the pace of tapering to $30 billion/month with the goal of ending asset purchases in March. The Fed will drop the “transitory” language from the statement. The dot plot will likely show two rate hikes in 2022, with the risks weighted toward more, and reveal an expected path of rates the brings rates to or just below neutral (2.5%) at the end of 2024. Powell will likely emphasize that this is not the same as tightening; rates for much if not the entire forecast horizon will still be below neutral. The market reaction to last week’s CPI report revealed that market participants may have outsized expectations of what to expect this week. The report revealed the highest inflation since 1982 yet treasuries rallied across the curve. Market participants were apparently positioned for even more hawkish numbers, and I sense something similar might be brewing for this week’s FOMC meeting. The Fed’s pivot was abrupt and caught many by surprise. It is not uncommon to overcompensate after such a surprise. During the last week, for instance, I have picked up chatter on an even more rapid pace of tapering and speculation of a 50bp rate hike in March. I don’t think Powell and his colleagues are ready to move us that far forward.
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