Key takeaways from the minutes of the Nov-21 Fed Meeting

The Federal Open Markets Committee published the detailed minutes of the 03-Nov FOMC meeting on 24-November.

November 26, 2021 8:54 IST | India Infoline News Service
The Federal Open Markets Committee published the detailed minutes of the 03-Nov FOMC meeting on 24-November. Two things emerge. A majority of the Fed governors and FOMC members are veering towards front-ending rate hikes. Secondly, members have underlined the need for flexibility. In case the third wave deepens, there should be a Plan-B in place to change the tone of monetary policy.

Broadly, there is a sense of hawkishness building into markets. Of course, the 10-year bond yields are up and the dollar is strengthening. But more important is the trend of the CME Fedwatch and how it has shifted between 03-Nov and 24-Nov.

How the CME Fedwatch shifted to more hawkish

One way to assess the probability of a rate hike and its timing is to look at the CME Fedwatch. This is the implied probability of different Fed rate scenarios over the next 10 Fed meetings. The table below captures the gist of these probabilities.

Fed Meet 0-25 25-50 50-75 75-100 100-125 125-150 150-175 175-200
Dec-21 100.0% Nil Nil Nil Nil Nil Nil Nil
Jan-22 95.3% 4.7% Nil Nil Nil Nil Nil Nil
Mar-22 70.6% 28.2% 1.3% Nil Nil Nil Nil Nil
May-22 46.6% 42.1% 10.8% 0.5% Nil Nil Nil Nil
Jun-22 19.8% 43.6% 29.6% 6.7% 0.3% Nil Nil Nil
Jul-22 13.0% 34.8% 34.6% 14.9% 2.6% 0.1% Nil Nil
Sep-22 7.0% 24.1% 34.7% 24.3% 8.5% 1.3% Nil Nil
Nov-22 5.2% 19.5% 31.9% 27.1% 12.7% 3.2% 0.4% Nil
Dec-22 1.9% 9.8% 23.6% 30.3% 22.3% 9.6% 2.3% 0.3%
Feb-23 1.4% 7.7% 20.0% 28.6% 24.4% 12.9% 4.2% 0.9%
Data source: CME Fedwatch

Normally a probability in the range of 25% to 30% is indicative of a strong possibility of an event happening. If you compare the latest table above with the similar probabilities on 03-Nov, few key changes are visible.

a) The probabilities have sharply shifted towards more hawkishness across the next 10 Fed meetings with higher rates being accorded higher probabilities.

b) On 03-Nov, the indication was that the first rate hike would happen around Jun-22 with a second rate hike in Dec-22. The-24-Nov probabilities indicate a high probability of the first rate by Mar-22 and a total of 4 rate hikes by Dec-22.

c) That would mean a strong probability of the Fed rates going up to 0.50-0.75% by June 2022 and to 1.00% to 1.25% range by December 2022. In just the last 21 days, a lot more hawkishness has got built into rate expectations.

d) In short, the message appears to be a strong front-ending of rate hikes in sync with the liquidity taper rather than waiting for the liquidity taper to be complete by Jun-22. Clearly, inflation is pinching harder than imagined.

Key takeaways from the Nov-21 FOMC meeting minutes

Here are 7 key takeaways from the minutes of the Nov-21 FOMC meet.
  • The FOMC is clearly worried about the unprecedented rise in inflation caused by supply chain constraints. The members have admitted that the so-called transitory inflation was taking longer than anticipated to subside. It meant that while the taper will do part of the job, rate hikes have to be front-ended.
  • The taper has actually begun with the first round of $15 billion asset purchase reduction effective from 15-Nov and another $15 billion asset purchase reduction effective from 15-Dec. From mid-December, the asset purchase will stand reduced to $90 billion and set for a total wind-down by June 2022.
  • One unanimous view that emerged from the FOMC minutes was that the participants stressed on the need to maintain flexibility while implementing policy adjustments. In an uncertain COVID situation, it was essential to have a built-in escape route wherein the Fed should be able to abandon its hawkish stand at short notice.
  • There was a gnawing feeling the Fed should be prepared to make a choice. They must either be prepared to reduce bond purchases quicker or start raising the Fed's benchmark interest rate sooner to make sure inflation did not get out of hand. The latter seems to be a more likely choice.
  • The Fed also debated the hawkishness across the world with the central banks of Norway and New Zealand raising policy rates. In addition, communications from the Bank of England and Bank of Canada hinted at rate hikes sooner than expected. ECB suggested that market rates may be inconsistent with policy outlook.
  • While US inflation came in at 6.2% in Oct-21, the inflation for full year ending Sep-21 stood at 4.4% with core inflation at 3.6%. The Fed noted that in the third quarter ended Sep-21, while the GDP growth came under pressure, the inflation rate kept going higher.
  • Finally, Fed members noted that supply chain challenges and limited labour availability  were the bottlenecks. This is worsened by major backlogs in shipments and transport in the midst of surging demand for goods and services.  Supply constraints may last longer.

What the Fed minutes mean for Indian economy?

At the outset, the taper has started and unless there is another emergency, the rate hikes could start as early as March 2022. Higher US yields and a strong dollar means a lot of global allocations are already going back to the US at the cost of emerging market allocations. That is evident from the FPI selling in India in the secondary markets although a robust IPO pipeline has kept FPI flows robust.

The bigger challenge for India will be on the policy front. The RBI has already started off with its own version of the taper but will have to take a call on rates and its accommodative stance between the Dec-21 and Feb-22 Fed meets. We will get the first hints in the December policy statement by the RBI.

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