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January FOMC Meeting Recap: First Rate Hike Imminent & Balance Sheet Runoff to Commence After Rate Hike(s)

Powell hinted that the balance sheet runoff in this cycle would start “sooner” and “perhaps faster” than the last cycle given higher inflation, higher growth, and stronger labor market. 

Summary

As widely expected, the Federal Open Market Committee (FOMC) voted unanimously to leave the funds rate target range unchanged at 0–0.25% and signaled that the first rate hike would come “soon” (as early as the next FOMC meeting in March) after tapering completes.

Main Points

• As widely anticipated, the FOMC decided to keep the target range of the funds rate unchanged and signaled that the first rate hike could come “soon” (as early as the FOMC’s March meeting), citing inflation being “well above 2 percent” and “a stronger labor market.” When asked about the pace of rate hikes during the presser, Powell commented that the future path of interest rates was not determined yet, and inflation readings would have significant implications.
• The FOMC released a set of “principles” for reducing the Fed’s balance sheet, which state that the balance sheet runoff “will commence after the process of increasing the target range for the federal funds rate has begun,” implying balance sheet runoff could start at any meeting after March. The principles also state that “the Committee views changes in the target range for the federal funds rate as its primary means of adjusting the stance of monetary policy.”
• The FOMC did not discuss the timing and pace of balance sheet runoff at this meeting, but will discuss at “upcoming meetings.” During the presser, Powell hinted that the balance sheet runoff in this cycle would start “sooner” and “perhaps faster” than the last cycle given higher inflation, higher growth, and stronger labor market. The balance sheet runoff would be achieved “primarily by adjusting the amounts reinvested of principal payments,” suggesting that active asset sales are unlikely to be used to reduce balance sheet.

Implications: “sooner” & “perhaps faster” quantitative tightening this time around

Although the new FOMC statement did not surprise (e.g., no immediate end to tapering, no early rate hikes), the prospect of “sooner” and “perhaps faster” balance sheet runoff and the uncertainty surrounding the magnitude (Powell did not rule out the possibility of 50bps hike during the presser) caused market jitters. Powell appears determined to fight entrenched inflation as he commented that “I think there’s quite a bit of room to raise interest rates without threatening the labor market.” The real 10-year UST yield jumped ~10bps today, DXY was firmly higher, and Gold was lower along with equities. 

To review graphs click here: January FOMC Graphics