The Fed not only raised rates but also made an unprecedented upgrade of its interest rate path for 2017, to three hikes. This is the main reason for the dollar’s surge. The forecast for three hikes as a message that the Fed is indeed confident in the steady growth path of the US economy.
However, a total of three hikes is probably the maximum number of hikes that the Fed foresees for the upcoming year. It is important to note that when Yellen and her colleagues made the historic, first post-crisis hike in December 2015, they projected four hikes for 2016. This year ended with a lone move by the FOMC.
At this point, a total of only two rate hikes for 2017 makes more sense. The first could come in June, after the dust settles from Trump’s initial, critical months in office. The second one could come only in December.
Three Factors for a rate hike
The path of rate hikes depends on three major factors. First, the economic data: the Fed reiterates it is data dependent and this is true.
The second factor is the actual policy of Donald Trump. Markets have gotten ahead of themselves with high hopes for a blitz of fiscal stimulus coming from the incoming administration.
Only part of Trump’s grand plans will come to fruition. Politicians’ promises should be taken with a grain of salt, something the markets haven’t applied so far.
The third factor is the strength of the US dollar. The higher exchange rate of the greenback serves as means of tightening on its own, dampening inflation and weighing on exports. In addition, the move has repercussions for emerging market economies. When the dollar abruptly surges, we hear Fed officials publicly discussing it as a factor. in their deliberations. Yellen mentioned the dollar in an answer to a question during the press conference. Another significant rally could smooth the path of hikes.
While three rate hikes cannot be ruled out, we would need to see the ongoing solid growth in the economy, significant stimulus from Trump and no more big USD rallies. Two hikes seem more prudent by the usually dovish Fed.
More: The Bottom Line For USD Post-FOMC – BofA Merrill