Policy Not On A Preset Course

Federal Reserve Chairman Jerome Powell extended his colleague Vice Chairman Richard Clarida’s comments and emphasized the data dependent nature of monetary policy in 2019. It is a wait and see game at this point. The Fed might not hike in 2019. They might hike four times. It depends on what is left after the sugar high from fiscal stimulus fades.

Market participants zeroed in on Powell’s assessment of the current stance of policy. He did not say, as was initially reported, that rates were near neutral, but instead said that rates are near the bottom edge of the range of neutral estimates. Policy thus could be far from neutral if the upper estimates of neutral are correct.

Still, this was a pullback from Powell’s October remarks that policy rates are a “long way” from neutral, which implied considerable certainty about the appropriate level of rates at this stage in the business cycle. This alleviates concerns that Powell has a fixed notion of where rates are headed.

This was an important shift for Powell to walk back the October remarks. My sense is that Powell and others leaned too far into the “hike above neutral” story ahead of the data to support that call. This made it appear that policy was less data-dependent than in reality. Some softening of the data drove this home as well.

I do find it interesting that Powell & Co. remain tied to the current range of neutral estimates after New York Federal Reserve President John Williams tried to downplay the whole r-star story a couple of months ago. Williams left the impression that the r-star estimates weren’t all that important. But they are.

Prior to that move, we had a nice little story about how policy would become more data dependent as we moved closer to neutral. Now the messaging has moved back to that story. After the December hike, the Fed will be at the lower end of the neutral range, and policy will become increasingly data dependent. As Powell says:

We will be paying very close attention to what incoming economic and financial data are telling us.

Bottom Line: Where does this leave us? Waiting for more data. Assuming inflation remains under control, I think the Fed will pause when they see that economic momentum has faded sufficiently to stabilize the unemployment rate. More on that later.