– June 15, 2016
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Today, the Federal Open Market Committee decided to keep the federal funds rate unchanged, consistent with public expectation after the disappointing May jobs report.

Both labor market conditions and inflation, the Fed’s dual mandate, show no signal for a rate increase any time soon. 

As we all know, the May jobs report raised much concern about the sharp hiring slowdown. While some are hoping and waiting to see whether this is only transitory, Fed officials have seen continuously declining labor market conditions over the past several months.

The Labor Market Conditions Index, an index derived from 19 labor market indicators and released by Board of Governors of the Federal Reserve System, has shown declines in seven straight months since December. The disappointing May jobs report may be starting to capture a worsening labor market.  So it may take longer than expected for labor market conditions to turn around.

Inflation, on the other hand, is expected to continue to run below the Fed’s 2 percent target. PCE inflation today is projected to be 1.4 percent for 2016 and Core PCE is projected 1.7 percent by FOMC participants. AIER’s inflation forecast projects a mild inflation rate throughout the rest of the year. A sluggish inflation growth would leave the Fed more reason to hold on to the current policy rate for longer.

All the above analysis is reflected in the projected pace of raising interest rates from the projections in the materials released today. Six FOMC participants, out of 17, think one rate increase is appropriate for 2016, and 11 believe there should be at least two rate hikes this year, compared with 16 participants in March who said there should be at least two rate increases for 2016. 

According to federal funds futures, which measures market expectations of the future federal funds rate, the market predicted a nearly zero percent chance of a rate increase in June and July before today’s meeting. After the meeting statement and the projections materials were released at 2 p.m., the market still sees zero probability for July rate increase, but predicts a roughly 16 percent chance of a rate hike in September, down from 25 percent prior to the meeting.

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Jia Liu, PhD

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