Did the Fed Deliver a Hawkish Cut?

The Federal Reserve delivered the widely anticipated 25 bp rate cut, but by not validating expectations for another cut. The market reacted is if they wanted to clearer dovish signal. The dollar strengthened, and equities fell.  

To be sure, a plurality of Fed officials, (7) see another cut.  Five officials saw no need for another rate cut.  Another five officials thought that it would be appropriate for the fed funds rate to be unchanged from where it was coming into today.  This is a protest and suggests more support for the position of KC and Boston Fed Presidents (George and Rosengren), who dissented again to leave policy steady.  On the other hand, St. Louis Fed President Bullard dissented in favor a 50 bp cut.   

The interest rate on reserves, which the Fed pay on excess and required reserves by 30 bp, as it tries to keep it within the target range.  It also lowered the rate of the reverse repos as well.  The economic assessment was little changed. The strength of the labor market and consumption were acknowledged. Slower exports and weakness in business investment were recognized.  The acceleration of core inflation (to its highest level since 2008) was not acknowledged.  

The current impact of trade uncertainty and the risks that the economy is exposed within the context of below-target inflation means gives the Fed room to take out a low-cost insurance policy.  The Fed has a generally positive economic outlook and to achieve its objectives, not much more adjustment of the fed funds rate.  

The Fed's response to the squeeze on funding should not be seen as a monetary policy signal, Powell said. The Fed will likely continue to rely on the repos over the next several weeks if needed.  A decision is likely at the next FOMC meeting.  He did seem to acknowledge that the Fed recognizes the need to ensure sufficient reserves. Powell explained that the Fed will be considering continuing the organic growth of its balance sheet.  The organic growth of the balance sheet refers to the long-term process by which the Fed increased its balance sheet in line with the increased demand of its liabilities.  By long-term process, it appears the Fed's balance sheet grew in most years until the Great Financial Crisis, as QE took over.   

The Fed's logic and purposeful use of midcourse correction is revealing, we think.  It has meant three rate cuts when used by Greenspan in the 1990s.   We expect one more cut this year.  The timing, October or December seems to be data determined.  

The two-year yield is almost two basis points higher on the day.  The January 2020 fed funds futures contract is practically unchanged on the day.  Which about says it all.  

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