Federal Reserve maintains target rate and blames everything on the Euro

The Federal Open Market Committee maintained its 0% to 1/4% target range for the federal funds rate today. The Fed repeated that “economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period.” Kansas City Fed President Hoenig was the lone dissenter again.

On the economy, the Fed said “the economic recovery is proceeding and that the labor market is improving gradually.” However, in addition to other factors restraining the recovery, the Fed noted “Financial conditions have become less supportive of economic growth on balance, largely reflecting developments abroad.”  The Fed was somewhat cautious on growth prospects, suggesting that events "overseas" made financial conditions less growth supportive. This is a diplomatic way of saying that everything that goes wrong is the fault of the Euro and its dysfunctional monetary union.


On inflation, the Fed added that “Prices of energy and other commodities have declined somewhat in recent months, and underlying inflation has trended lower” to its standard language on inflation.

BOTTOM LINE

The Fed’s confidence in the economic recovery does not appear to have been significantly shaken by recent data or developments abroad, but with the comment about less supportive financial conditions and lower underlying inflation trends, this statement is modestly more dovish than the statement released in late April. The next important event related to the Fed will be Chairman Bernanke’s semiannual testimony on the economy and monetary policy before Congress in late July and market participants will look to that appearance for further guidance on the policy outlook. With the Fed citing less accommodative financial conditions and lower inflation trends, and given the focus on resource slack and the apparently asymmetric inflation risk from commodity prices, the chances continue to grow, in our opinion, that the first rate hike may not come until the second half of 2011.

Source UBS, RDQ

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