June 2023 Federal Reserve FOMC interest rate meeting notes: interest rates can be higher

Summary

• At this meeting, the Federal Reserve announced to keep interest rates unchanged (5%-5.25).
• The dot plot shows that the interest rate expectations of Fed officials have moved up, implying that the interest rate will be raised by 50bp in the second half of this year, slightly exceeding market expectations.
• Forecasts for economic data and inflation have turned more upbeat, with the Fed looking confident about a soft landing for the U.S. economy.
• Powell stuck to his defense of the Fed's 2% inflation target,** and famously said "Whatever it takes"**. Unfortunately, the dot plot does not reflect officials' confidence in meeting their inflation target.
• Powell believes that not raising interest rates at this meeting should not be defined as a "pause" (pause). His statement is more inclined to slow down the pace of tightening and practice Higher for Longer.
• Contrary to market expectations following the release of the inflation data, Powell took a cautious stance on inflation, with Powell looking very concerned about the resilience of core inflation and market participants appearing to think the inflation narrative has turned the page.
• The U.S. dollar index, long-term U.S. bond yields jumped, and U.S. stocks fluctuated.

Statement

Compared with the main text of May, the content of the text of this statement has little substantive change, only minor rhetorical changes.

Ditmap and Economic Forecast

The GDP growth forecast for this year has been raised, 0.4%→1.0%

Lowered the unemployment rate forecast for this year, 4.5%→4.1%

Raised the core PCE inflation forecast for this year, 3.6%→3.9%

On the whole, the Fed has sufficient confidence in a soft landing. At the same time, the Federal Reserve believes that the current de-inflation process may be repeated. **

The level of terminal interest rates has been raised, and most officials expect interest rates to be at a level of 5.5%-5.75% by the end of this year, higher than the current level of interest rates by 50bp.

Conference Highlights

**Q1. Now that the housing market is picking up and financial conditions are starting to loosen, what makes you confident that the pause in raising interest rates will not be self-defeating? **

There are three main parameters of the interest rate hike cycle: speed, magnitude and duration. Fifteen months ago, the Fed's top question was how to raise interest rates quickly; last December, after raising interest rates by 75bp in a row, we reduced the rate hike to 50bp, and will further reduce it to 25bp in three meetings this year.

With terminal rates now approaching, the main question facing the Fed is determining how much more rates still need to be raised. The Fed should moderate rate hikes, and the pause at this meeting reflects that process. Rate hike pace and terminal interest rate are independent variables, slowing pace has nothing to do with terminal interest rate level.

Finally, I need to emphasize that the FOMC committee insists on one meeting and one meeting. We did not make any decisions on the future monetary stance in today's meeting, especially the July meeting.

Follow up: Wasn't there any discussion of the July policy stance in this meeting?

This topic did come up from time to time in the meeting, but we didn't make any decision on it (make a decision). In addition, the July interest rate meeting will be broadcast live by the Fed.

**Q2. The SEP dot plot moves up overall, the labor market is stronger, the GDP growth forecast has doubled, and demand will not cool down quickly. Where does the disinflation come from in your soft landing narrative? **

First of all, the data is higher than expected, but if compared with the SEP in March, the forecast value does not deviate too much: the GDP growth rate is revised up, the unemployment rate is revised down, and inflation is revised up, which means that more policy tightening is needed. The terminal rate forecast by the dot plot is fairly in line with rate expectations for market transactions ahead of the March banking event, which means we are back to where we were in March.

As for where the disinflation comes from, I think it's still the same narrative. In terms of commodity inflation, the supply side has improved but has not yet returned to the original level; in terms of housing inflation, the new rent price is lower, and the downward shift in data is only a matter of events. Most of the decline in inflation this year and next year will come from this sub-item, but the rate of de-inflation may be slower than expected; finally, core service inflation accounts for more than half of core PCE, and there are currently no obvious signs of deflation. Labor costs are the biggest cost in this sub-item, and there are some indicators that the labor market is cooling, but we need this to continue. All in all, Although inflation has entered a downward channel, the process of de-inflation is hindered and will take a long time.

**Q3. What is the value of suspending interest rate hikes? Why not uphold the spirit of short-term pain rather than long-term pain, and continue to raise interest rates? **

By easing the pace of rate hikes, the Fed can incorporate more data and information into its decision-making and can wait for the economy to absorb and reflect the full effects of the credit crunch caused by monetary policy and banking events. If you look at the pace of interest rate hikes separately from terminal interest rates, I think it makes sense to pause interest rate hikes.

Follow up: The data reports that will be released before the July meeting include the June job market report and CPI report, ECI, senior loan officer survey. On what reports does the committee base its policy decisions?

If we add the data released before this meeting, we will be able to see the data of a full three months, a full quarter, which can draw more conclusions than just looking at the data of six weeks. We will make decisions with reference to risk conditions and financial conditions.

**Q4. Since March, what factors have deepened your perception of economic resilience and inflation stickiness, leading to the revision of SEP? Is it possible that the terminal rate is higher than 5.6%? **

First, the revision of SEP is based on data. Secondly, the SEP dot plot is based on the FOMC voting committee's personal assessment of the economic path, and I have no way of knowing whether it will be lowered or raised in the future. Terminal rates will be data driven and I have nothing to comment at the moment.

**Q5. At the end of May, you said that you thought the risks were getting closer to balance. Has your view on risk management changed? How high an interest rate is considered "restrictive"? **

As we approach terminal rates, the risks of doing less versus doing more are naturally more balanced. But my Fed colleagues and I agree that the risks to inflation remain tilted to the upside: while headline inflation has moved lower, core inflation, which is a better indicator of where inflation is headed, has not moved much since last year. We would like to see solid evidence that inflation has peaked and retreated. Plus, we've had a year-long cycle of rate hikes since the tightening of financial conditions last year, and there's reason to believe that monetary policy has kicked in. This is why we hope to slow down the pace of interest rate hikes and make judgments after seeing more data.

**Q6. What indicators do you look at in terms of judging when the lagged effects of monetary policy start to affect the economy? **

First of all, Financial conditions have already begun to tighten before the actual rate hike. If the 2-year treasury bond yield is used as the intermediate value of the policy trend, the indicator has risen from 20bp to about 200bp level. Thanks to the news media, the effect of monetary policy today is faster than in the newspaper era. Second, interest rate-sensitive expenditures, such as housing and durable goods, have quickly felt the impact of interest rate hikes, but it will take longer for monetary policy to be transmitted to broader demand and spending, as well as asset prices. Various studies predict time lag All in all, there is no consensus in the industry, we can only make judgments based on the current economic situation. That's why we need to slow rate hikes. Give it a little more time and we won't overcorrect.

Follow up: What is the current credit crunch? How to distinguish the impact of monetary policy from the impact of credit crunch?

It is too early to assess the extent of the credit crunch. If there is a sharper-than-expected credit crunch, we factor it into our rate decision.

**Q7. At present, the downward trend of inflation in the three sectors is in place. Why is the dot plot so hawkish? **

Over the past two and a half years, the financial sector and the Federal Reserve have forecast downward inflation many times, and they have been wrong. The core PCE inflation rate has not made much progress in the past six months, still hovering above 4.5%, and there is no real downward trend. Therefore, our policy decision today not only slows down the pace of interest rate hikes, but also expresses our position of continuing to raise interest rates within this year.

Follow up: San Francisco Fed research shows that wages are not necessarily a key driver of inflation, but you still mentioned wage inflation today. How do you see this relationship?

I'm not commenting on specific studies, but in general, inflation in '21 is largely driven by strong commodity demand and supply chain disruptions, while wage inflation in '22 or '23 is gaining in importance, especially in the non-housing core services sector, where we Wage inflation needs to be brought back in line with 2% inflation. We've seen a broad decline in wages, but it will take time. My point is consistent with Bernanke's latest research.

**Q8. Would you act if you saw the same labor market and inflation levels in July or September? **

I don't answer hypothetical questions. You can see what Fed officials are thinking when they meet in July.

Follow up: Will inflation fall?

See SEP for details.

**Q9. Are we approaching a reserve shortfall? Will the reserve position be affected by the issuance of government bonds? Are you considering cutting the RRP to ease pressure on banks? **

We have been very concerned about this issue for several months. The treasury has publicly outlined its borrowing plans and the minister's comments yesterday indicated extensive consultations with market participants to avoid market disruption. On the Fed side, we will carefully monitor market conditions while the Treasury refills the TGA. During the period, both RRP and reserve levels will decrease, but the flow situation is currently unknown. Since the current level of reserves is still high, we don't think there will be a shortage of reserves in the short term or within the year.

Follow up: Will RRP be lowered?

There is no evidence that the RRP is causing the loss of deposits, and RRP balances have been shrinking recently. Adjusting the RRP is only one of the tools that the Fed can call at any time. There are other tools that can be used to solve money market problems. Therefore, the Fed will not consider adjusting the RRP interest rate in the short term.

**Q10. How to take into account the recent rebound in the housing market? **

The housing market is currently bottoming out due to last year's rate hike, but has picked up. We will continue to monitor the housing market and expect low rents to be gradually reflected in housing inflation. I don't think housing inflation will pick up anytime soon.

Follow up: Will the pick-up in the housing market lead to further rate hikes?

Housing is part of the interest rate decision and we take a holistic view.

**Q11. CBO predicts that the national debt will reach 52 trillion US dollars in 23 years, and the fiscal deficit will reach 2.8 trillion within 10 years. Will the Fed discuss fiscal issues with the legislature? **

Given the Fed's policy independence, it is inopportune to discuss fiscal issues with the legislature.

Follow up: Will the Fed provide monetary financing for national debt?

No way.

**Q12. Compared with March, has the possibility of a soft landing increased? **

A path to a soft landing is possible. However, as shown in the SEP dot plot, the FOMC committee agreed that inflation needs to be brought down to the 2% target, and whatever it takes. That's our plan. Price stability, for today's workers, families and businesses, across generations, is the bedrock of our economy and our top priority.

Follow up: The SEP shows that inflation will remain high next year, but the dot plot forecasts a lower Fed rate than it does now. Does that contradict your statement of lowering inflation "at all costs"?

I would not give too much weight to next year's forecast due to the high level of uncertainty. But what they show is that if inflation falls, nominal interest rates must fall to keep real interest rates constant. In other words, when inflation does fall significantly, it is of course appropriate to cut interest rates. Of course, I'm talking about a few years from now. It is well known that no one on the committee voted to cut rates this year. I also think rate cuts this year are unlikely to be appropriate (at all likely to be appropriate). Inflation hasn't really come down and hasn't responded much to the current rate hikes. We have to keep trying.

**Q13. Black unemployment rebounded in May. Is this in line with the Fed's mission to promote maximum employment? **

We take into account long-term differences in unemployment rates across groups, but at the same time all unemployment rates, including black unemployment, are still at historic lows. It's a very tight labor market.

**Q14. Federal Reserve Governor Waller mentioned that he has not seen the slowdown in rent reflected in housing inflation, and the final slowdown may be lower than expected. How to treat? **

Indeed, rent inflation accounts for 1/3 of CPI and half of PCE, and is an important component of inflation indicators, so we need rents to bottom out and keep growth low. But core inflation over the past six months or a year shows that the process of de-inflation has not met expectations, and the SEP predicts that core PCE inflation will reach 3.9% this year.

Follow up: What do you think of the recent wage inflation?

We have seen some progress, with the main indicators of wage inflation gradually coming down from the extremely high levels a year ago. We hope this process continues.

**Q15. Regarding wage inflation, did the committee mention the recent strikes in Hollywood, the Auto Workers, etc.? **

The labor market is one of our core topics and is part of the Fed's dual mandate. However, many problems in the labor market are structural and cannot be resolved by Fed action, so we do not participate in discussions related to strikes, although we follow these developments.

**Q16. How do you view financial systemic risks, including risks related to commercial real estate and non-bank financial institutions. **

With regard to commercial real estate, there are a large number of commercial real estate-related assets in the banking system, a large part of which is concentrated in small banks. We expect losses for these banks, and possibly more losses for centrally held banks. We are currently monitoring this issue, but commercial real estate risk is more likely to persist in the long term than to explode in the short term.

With regard to the non-bank financial sector, the government has a lot of ongoing related work, trying to solve the problems of the national debt market and non-bank finance. But the Federal Reserve's jurisdiction covers only banks and bank holding companies, which is the focus of our work. We will also continue to monitor relevant developments. If a credit crunch or other financial risk erupts and has an impact on the economy, we factor that into our interest rate decisions.