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01 27 2016 | by Victor Xing | Central Banks

FOMC recap: dovish statement and “symmetric” objective

FOMC statement – dovish as expected

The January FOMC statement was dovish as expected.  FOMC participants acknowledged “further declines in energy prices,” as well as softness in market-based measures of inflation compensation (please see FED’s 5 year, 5 year forward inflation expectation rate).

Nevertheless, the Federal Reserve also highlighted the decent December Payrolls report amid recent soft patch in the economy (in ISM Manufacturing and ISM Non-manufacturing).

Source: WSJFederal Reserve

January 2016 FOMC recap
Moreover, the Statement also gave nod to the on-going market volatility and uncertainties over China’s growth, that the Committee will be “closely monitoring global economic and financial developments and is assessing their implications for the labor market and inflation, and for the balance of risks to the outlook.”
January 2016 FOMC recap
Indeed, market participants have been expecting dovish overtones from policymakers.  Financial markets are currently pricing in about one hike for the entire year of 2016 (using 30-day federal funds futures expiring in January 2017 as a proxy, at 62.5 basis points), relative to 2.2 hikes (91 basis points) at the beginning of the year as risk sentiment and credit spreads deteriorated in tandem with oil prices.
January 2016 FOMC recap
Federal funds futures market implied one hike for the entire year of 2016

“Symmetric” inflation objective – a dovish surprise

The FOMC also released a statement to reaffirm its “Statement on Longer-Run Goals and Monetary Policy Strategy” with an amendment that the Committee views its inflation objective as symmetric, suggesting that the Committee would defend its inflation objective from above and below.  Under the current context, the new language is to be interpreted as a dovish signal to counter the effects of disinflation.

It does not suggest immediate dovish responses from the FOMC, but the new language would serve as a guideline that prolonged dis-inflationary pressure would warrant policy response.

The revised statement

The Committee would be concerned if inflation were running persistently above or below this objective. Communicating this symmetric inflation goal clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the Committee’s ability to promote maximum employment in the face of significant economic disturbances.

Prior statement

Communicating this inflation goal clearly to the public helps keep longer-term inflation expectations firmly anchored, thereby fostering price stability and moderate long-term interest rates and enhancing the Committee’s ability to promote maximum employment in the face of significant economic disturbances.

Market reactions

Today’s interest rates market had been dominated by two catalysts: concession into the 5 year auction an hour before the FOMC, and the subsequent rebound following the FOMC statement with the clarification on the Committee’s symmetric inflation objective.  Thus the late session rally was partly due to dovish policy expectations and in sympathy with the equity risk-off.
January 2016 FOMC recap
5 year futures chart showing the initial weakness into the 5 year auction and the subsequent post-FOMC recovery (5s30s steepened 2 basis points)

Next article01 22 2016 | by Victor Xing | Capital Markets

Why would falling oil prices induce an equity rout?