Today's FOMC statement: how the language changed from prior meeting

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1 Trend Macrolytics, LLC Donald Luskin, Chief Investment Officer Thomas Demas, Managing Director Michael Warren, Energy Strategist Data Insights: Federal Reserve Wednesday, August 1, 2018 Today's FOMC statement: how the language changed from prior meeting June 13August 01, 2018 Federal Reserve issues FOMC statement Information received since the Federal Open Market Committee met in MayJune indicates that the labor market has continued to strengthen and that economic activity has been rising at a solidstrong rate. Job gains have been strong, on average, in recent months, and the unemployment rate has declined. Recent data suggest that growth of householdstayed low. Household spending has picked up, whileand business fixed investment has continued to growhave grown strongly. On a 12-month basis, both overall inflation and inflation for items other than food and energy have moved close toremain near 2 percent. Indicators of longer-term inflation expectations are little changed, on balance. Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee's symmetric 2 percent objective over the medium term. Risks to the economic outlook appear roughly balanced. In view of realized and expected labor market conditions and inflation, the Committee decided to raisemaintain the target range for the federal funds rate toat 1-3/4 to 2 percent. The stance of monetary policy remains accommodative, thereby supporting strong labor market conditions and a sustained return to 2 percent inflation. In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its maximum employment objective and its symmetric 2 percent inflation objective. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. Voting for the FOMC monetary policy action were: Jerome H. Powell, Chairman; WilliamJohn C. DudleyWilliams, Vice Chairman; Thomas I. Barkin; Raphael W. Bostic; Lael Brainard; Esther L. George; Loretta J. Mester; and Randal K. Quarles; and John C. Williams. Source: FOMC, TrendMacro analysis Copyright 2018 Trend Macrolytics LLC. All rights reserved. This document is not to be forwarded to individuals or organizations not authorized by Trend Macrolytics LLC to receive it. For information purposes only; not to be deemed to be recommendations for buying or selling specific securities or to constitute personalized investment advice. Derived from sources deemed to be reliable, but no warranty is made as to accuracy.

2 "Considerable period" "Patient" "Measured" "Some time" "Extended period" "To mid-2013" "To late 2014" "To mid-2015" "Till UE 6.5%" "Well past 6.5%" Yellen Rule 38 words 43 words 44 words: "Furhter" Considerable period Patient Further improvement Some further improvement Fedspeak regime change: the evolution of forward guidance 11% 10% 9% UE Rate 8% 7% Forward guidance eliminated 6% 5% Funds rate target 4% 3% 2% 1% Core PCE inflation 0% Source: FOMC, Federal Reserve, BLS, BEA, TrendMacro calculations Other voices: number and direction of FOMC decision dissents Source: FOMC, TrendMacro calculations 2

3 1.90% 1.73% 1.53% 1.70% 1.49% 0.98% 1.37% 0.98% 1.59% 1.55% 1.59% 1.86% 1.86% 2.73% 2.69% 2.69% 2.48% 3.69% 3.50% 3.37% 3.26% 3.70% 3.54% 3.70% The dual mandate: garbage in, garbage out Unemployment rate Trend from peak Core PCE inflation YOY Trend from trough 11% 10% 9% 8% 7% 6% 5% 4% 1.90% Jun 2018, Inflation trend 1.64% "Full employment" range 4.1% to 4.7% 4.05% 1.5% 1.0% 3% % Source: BLS Current Population Survey, TrendMacro calculations So many policy rules, so little time As of May 29, 2018 Based on inputs from: FOMC Summary of Economic Projections Congressional Budget Office Cleveland Fed Actual (midpoint), 1.88% Source: Cleveland Fed, TrendMacro calculations 3

4 Jan 12 Apr 12 Jun 12 Sep 12 Dec 12 Mar 13 Jun 13 Sep 13 Dec 13 Mar 14 Jun 14 Sep 14 Dec 14 Mar 15 Jun 15 Sep 15 Dec 15 Mar 16 Jun 16 Sep 16 Dec 16 Mar 17 Jun 17 Sep 17 Dec 17 Mar 18 Jun Estimating the natural rate of interest Actual funds rate Neutral real funds rate (Laubach-Williams + YOY Core PCE) Recession +20% +18% +16% +14% +12% +10% +8% +6% +4% +2% 0 Funds rate Actual: 1.88% Neutral 2.04% Source: San Francisco Fed, Federal Reserve, BEA, TrendMacro calculations R-star the ultimate "dotplot" FOMC participants' estimate of longer run target fed funds rate Vote by individual participant Weighted average Taylor Rule rate based on participants' core PCE and UE estimates 5.0% 4.5% 4.0% 3.5% 3.0% Source: Federal Reserve, TrendMacro calculations 4

5 Sep 17 Dec 17 Mar 18 Jun 18 Sep 16 Dec 16 Mar 17 Jun 17 Sep 17 Dec 17 Mar 18 Jun 18 Sep 15 Dec 15 Mar 16 Jun 16 Sep 16 Dec 16 Mar 17 Jun 17 Sep 17 Dec 17 Mar 18 Jun 18 Tracking the "dotplots" year by year FOMC participants' estimate of "appropriate" target fed funds rate Vote by participant Average For year-end % 4.0% 3.5% 3.0% 3.34% 3.16% 2.95% 2.46% 2.11% 2.20% 2.32% 2.23% 2.08% 2.19% 2.24% 1.5% 1.0% 2.02% 0.5% 0.0% For year-end % 4.0% 3.5% 2.65% 3.0% 2.80% 2.89% 2.85% 2.75% 2.70% 2.92% 2.96% 1.5% 1.0% 0.5% 0.0% For year-end % 4.5% 4.0% 3.5% 3.0% 1.5% 1.0% 0.5% 0.0% 2.85% 3.02% 3.33% 3.31% 5

6 Forecast versus actual: economic projections of the FRB and the presidents Forecast Actual Unemployment 11% 10% 9% 8% 7% 6% 5% 4% 3% Core PCE inflation 1.5% 1.0% 0.5% Real GDP 5% 4% 3% 2% 1% 0% -1% -2% Source: Federal Reserve, BEA, BLS, TrendMacro calculations 6

7 <-- Downside risk Upside risk --> <-- Downside risk Upside risk --> <-- Downside risk Upside risk --> <-- Downside risk Upside risk --> The evolution of uncertainty Diffusion indices from FOMC participants risk self-assessments in Summary of Economic Projections As of June Updated three weeks after June FOMC in Data Insights: FOMC Minutes Mar 2018 Mar Dec Dec Sep 2017 June Sep 2016 Jun PCE <-- Less risk to forecast More risk to forecast --> <-- Less risk to forecast More risk to forecast --> UE GDP <-- Less risk to forecast More risk to forecast --> <-- Less risk to forecast More risk to forecast --> Source: Federal Reserve Board, TrendMacro calculations 7

8 ABCPMMLF $0 Other credit $0 MMIFF $0 Repos $0 PDCF $0 TAF $0 CPFF $0 AIG $0 Discount window $0 Maiden Lane III $0 Maiden Lane II $0 TALF $0 MaidenLane $2 SDR certificates $5 Swap lines $0 Gold $11 TSLF $18 Other assets $30 Treasury currency $50 Agencies $2 Misc $156 AIG accrual $0 SFP $0 Term deposits $0 Other deposits $71 Misc $5 Treasury $339 Other liab, cap $44 MBS $1,717 Reverse repos foreign $250 Reverse repos other $1 Required reserves $180 Currency $1,668 Treasuries $2,342 Excess reserves $1,768 The Fed's assets, and how they are funded (USD billions) Assets do not perfectly match liabilities because we include unsettled MBS purchases and sales $5,000 $4,500 Assets Year ago $4,531 Total $4,333 Year ago Liabilities$4,512 Total $4,325 $4,000 $3,500 $3,000 Fed 12% $2,500 Ownership of US federal debt Other 88% $2,000 $1,500 $1,000 $500 $0 Source: Federal Reserve H.4, US Treasury, TrendMacro calculations 8

9 The Fed s asset purchases, and their effects on markets Stocks and bond yields react to changes in Fed Treasury, agency and MBS holdings $5 $4 Fed assets: Treasuries, agencies and MBS (USD trillions) $3 $2 QE3 M1 money supply Normalization QE2 $1 QE1 Currency in circulation $ S&P % 3% 2% US 10-year yield 1% Sector and maturity breakdown of Fed assets, USD trillions --- Monthly cap on un-reinvested maturities, max effective after 10/31/18 $1.71 Banking reserves, USD trillions Treasuries $30 bil $1.04 MBS $20 bil $0.03 $0.06 Treasuries 0-15 days Treasuries days $0.31 Treasuries 91 days to 1 year Treasuries 1-5 years $0.30 $0.62 Treasuries 5 -Treasuries years years plus Source: Federal Reserve, Bloomberg, TrendMacro calculations $0.00 Agencies MBS Excess $1.77 Required $0.18 9

10 Money supply growth, YOY quarterly M1 M2 Monetary base 110% 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% -10% Source: Federal Reserve H.6, TrendMacro calculations Monetary velocity, quarterly M1 base multiplier ---- M1 output multiplier M2 base multiplier ---- M2 output multiplier 12x 10x 8x 6x 4x 2x 0x Source: BEA, Federal Reserve H.6, TrendMacro calculations 10