Fed expected to raise interest rates, reduce massive balance sheet

Fed expected to raise interest rates, reduce massive balance sheet

The US Federal Reserve is widely expected to raise its benchmark interest rate on a two-day policy meeting which starts today. Forecasts see hike to a target range between 1.00% and 1.25%, in the second move upwards this year, in extension of a tightening cycle that Fed started in December 2015.

Tightening labor market is one of key supports for Fed to continue raising interest rates. The unemployment rate dropped to 4.3% – the lowest level in sixteen years and economic growth is showing signs of regaining pace after stagnation in the first quarter.

On the other side, inflation has returned to 1.5% from 1.8% earlier this year which raises doubts with regards whether the Fed will be able to stick to its 2017 schedule anticipating three rate hikes this year.

Other factors that may also influence Fed’s tightening policy are growing doubts on the size and scope of fiscal stimulus the Trump administration may inject into the U.S. economy with campaign promises on tax reform, financial regulation rollbacks and infrastructure spending either still on the drawing board or facing hurdles in Congress.

Markets are awaiting signals from the Fed about their confidence in the outlook and near-future actions that will be shown when the US Central Bank release their latest set of quarterly projections on growth, unemployment and inflation, as well as their expected rate hike path.

Moreover, there is increased anxiousness about the clearer picture on the timing and details of Fed’s previously announced plan to reduce this year its $4.2 trillion portfolio of Treasury debt and mortgage-backed securities, most of which were purchased in the wake of the financial crisis to help keep rates low and bolster the economy.

The US dollar is in a mixed mode against its major counterparts ahead of start of Fed’s two-day policy meeting. With a rate hike on Wednesday being fully priced in, the markets will be looking for the tone of Fed Chair Janet Yellen’s testimony, to get firmer signals on the dollar’s post-FOMC direction.

If Yellen shows less confidence for further tightening that will be seen as dovish tone and may send the dollar lower across the board.

Conversely, if she turns focus towards strong unemployment figures and sees inflation returning to Fed’s 2% target that would be supportive for the greenback.

The Fed is scheduled to release its decision at 18:00 GMT and Fed Chair Janet Yellen is due to hold a press conference at 18:30 GMT.