Magazine article Economic Trends

Market Expectations of Policy Rates

Magazine article Economic Trends

Market Expectations of Policy Rates

Article excerpt

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01.04.07

On December 12, the Federal Open Market Committee (FOMC) decided to leave the federal funds rate unchanged at 5.25 percent. In its statement, the FOMC noted that economic growth had slowed, primarily because of a weak housing market. However, the committee also remarked that "the economy seems likely to expand at a moderate pace on balance over coming quarters." The FOMC expressed some concern about recent data on core inflation but felt that "inflation pressures seem likely to moderate over time." It left open the possibility of additional policy tightening in order to curb potential "inflation risks." Richmond Fed President Jeffrey M. Lacker dissented from the committee's decision, preferring a rate hike of 25 basis points.

Looking ahead, participants in the federal funds options market currently expect the FOMC to keep the funds rate at 5.25 percent over the next two meetings. These expectations were moderately reinforced by the December 12 decision. Key data releases, such as revisions in third-quarter GDP and data on home sales, had only minor impact on expectations regarding the future course of monetary policy. The minutes of the December meeting, released on January 3, seemed to jar recent investor optimism. Market participants focused on the extent of the FOMC's concern regarding the housing market slowdown, and the minutes' release prompted a sharp decline in the stock market. …

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