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| Janet Yellen tells Congress to expect further rate hikes despite market turmoil | |
| (35 minutes later) | |
| Federal Reserve chair Janet Yellen continued to forecast gradual increases in interest rates on Wednesday despite the global tumult in stock markets that followed the Fed’s first rate rise since the recession. | |
| “Financial conditions in the United States have recently become less supportive of growth, with declines in broad measures of equity prices, higher borrowing rates for riskier borrowers, and a further appreciation of the dollar,” Yellen told the House financial services committee in her first major speech in two months. | |
| The Fed chief said that “the economy is in many ways close to normal”. Specifically, Yellen pointed out that the unemployment rate has declined to below 5%, which many of her colleagues consider to be full employment, and that inflation is likely to move up to 2%. What is not normal, she said, are the federal funds rates, which had to be held for seven years at “exceptionally low levels”. | |
| Yellen added that oil prices, steady job creation and faster wage growth should support growth of incomes and consumer spending. “Against this backdrop, the committee expects that with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace in coming years and that labor market indicators will continue to strengthen,” said Yellen. | |
| She also took this opportunity to defend the December interest rate hike, saying that had the Fed delayed raising the rates for too long “it might have to tighten policy relatively abruptly in the future”. | |
| “Such an abrupt tightening could increase the risk of pushing the economy into recession,” she said. | |
| Yellen stressed that the Fed’s monetary policy is “accommodative” and is “by no means on a preset course”. The Fed will continue to monitor global economic and financial developments, including Chinese growth, which could pose risk to US economic growth. | |
| “As expected, Yellen tried to strike a balance between expressing concern about ‘global economic and financial developments’ and not giving up on the base case scenario of ongoing improvement in the economy and gradual tightening over time,” said Jim O’Sullivan, chief US economist at High Frequency Economics. | |
| “The end result was no clear new signal relative to the last FOMC statement, including no specific signal for March, although there is enough focus on downside risks now to make a tightening move again that soon seem quite unlikely.” | |
| While the Federal Reserve chair, Janet Yellen, is the one tasked with delivering a message this week when she speaks to Congress, financial markets are keen to know if she has absorbed their message to her: stifle your rate hike plans. | |
| Related: Global markets fall after US jobs report raises prospect of interest rate rise | Related: Global markets fall after US jobs report raises prospect of interest rate rise |
| In the 53 days since investors last heard from Yellen, when she held a press conference after overseeing the first US interest rate hike in nearly a decade, markets have been roiled with volatility and increasing doubt about the health of the US and global economies. | In the 53 days since investors last heard from Yellen, when she held a press conference after overseeing the first US interest rate hike in nearly a decade, markets have been roiled with volatility and increasing doubt about the health of the US and global economies. |
| In that time, the S&P 500 has lost nearly 11% of its value and the 10-year note’s yield has declined by half a percentage point. | In that time, the S&P 500 has lost nearly 11% of its value and the 10-year note’s yield has declined by half a percentage point. |
| The upshot: investors have abandoned any notion that more rate increases are coming from the Fed any time soon. | The upshot: investors have abandoned any notion that more rate increases are coming from the Fed any time soon. |
| “Investors are pricing in no chance of a rate hike until summer of 2017, and the Fed is indicating four more,” said Brian Reynolds, chief market strategist at New Albion Partners. “It’s a big gap, and it’s widened dramatically this year.” | “Investors are pricing in no chance of a rate hike until summer of 2017, and the Fed is indicating four more,” said Brian Reynolds, chief market strategist at New Albion Partners. “It’s a big gap, and it’s widened dramatically this year.” |
| When the Fed on 16 December lifted its benchmark short-term rate to a range of 0.25% to 0.50% from 0.0% to 0.25%, policymakers signaled they saw that rate climbing to 1.4% at the end of 2016 and to 3.3% by the end of 2018. | When the Fed on 16 December lifted its benchmark short-term rate to a range of 0.25% to 0.50% from 0.0% to 0.25%, policymakers signaled they saw that rate climbing to 1.4% at the end of 2016 and to 3.3% by the end of 2018. |
| But key financial futures markets in the weeks following that decision have substantially driven down the level of anticipated interest rates for years to come, placing them squarely at odds with policymakers’ projections. | But key financial futures markets in the weeks following that decision have substantially driven down the level of anticipated interest rates for years to come, placing them squarely at odds with policymakers’ projections. |
| For instance, the price on the Fed fund futures contract expiring in December 2016 now implies the Fed funds rate will be 0.43% at year end, within the current rate range. | For instance, the price on the Fed fund futures contract expiring in December 2016 now implies the Fed funds rate will be 0.43% at year end, within the current rate range. |
| That suggests just a one-in-five chance the Fed will pull off even one more rate hike this year. On the day of the rate hike, however, the implied yield on that same contract was 0.83%, reflecting expectations for two rate hikes in 2016. | That suggests just a one-in-five chance the Fed will pull off even one more rate hike this year. On the day of the rate hike, however, the implied yield on that same contract was 0.83%, reflecting expectations for two rate hikes in 2016. |
| Implied rates on longer-dated contracts in closely related eurodollar futures have fallen even more dramatically. | Implied rates on longer-dated contracts in closely related eurodollar futures have fallen even more dramatically. |
| The Fed funds rate implied by the contract expiring in December 2018, when policymakers project it will hit 3.3%, now stands at just over 1%. It had been around 1.85% on 16 December. | The Fed funds rate implied by the contract expiring in December 2018, when policymakers project it will hit 3.3%, now stands at just over 1%. It had been around 1.85% on 16 December. |
| Related: Federal Reserve keeps interest rates unchanged while monitoring markets | Related: Federal Reserve keeps interest rates unchanged while monitoring markets |
| “The Fed has been able to influence the very near-term … contracts, but their control of things out the curve has been pretty weak,” said Mike Cloherty, head of US rates strategy at RBC Capital Markets, a primary dealer in Treasury securities. | “The Fed has been able to influence the very near-term … contracts, but their control of things out the curve has been pretty weak,” said Mike Cloherty, head of US rates strategy at RBC Capital Markets, a primary dealer in Treasury securities. |
| To be sure, Yellen and her colleagues already appear to be damping expectations for future rate increases. | To be sure, Yellen and her colleagues already appear to be damping expectations for future rate increases. |
| In its late January policy statement, the Fed altered its language to acknowledge that global financial and economic developments had clouded the outlook. Top Fed officials, including vice-chairman Stanley Fischer and Federal Reserve Bank of New York president William Dudley have nodded to those concerns in recent speeches and interviews. | In its late January policy statement, the Fed altered its language to acknowledge that global financial and economic developments had clouded the outlook. Top Fed officials, including vice-chairman Stanley Fischer and Federal Reserve Bank of New York president William Dudley have nodded to those concerns in recent speeches and interviews. |
| “In short, Fed officials remain hopeful that the economy will continue to improve and policy will be tightened gradually over time but, for now, the focus appears to be more on the downside risks from global economic and financial developments,” said O’Sullivan, of High Frequency Economics. “We continue to forecast that policy is on hold until June, at which point we expect tightening to resume, but, of course, that will depend on the data and the markets.” | |
| Reuters contributed to this report. |