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The Fed’s rate hike came as no surprise. Over the past few weeks the central bankers had been priming the markets for the “March move” in unusually clear fashion. In the Fed’s view, the economy is performing in line with its expectations. Accordingly, it is still projecting three rate hikes in total this year. The second hike is likely to come in June.

Allianz SE
Munich, Mar 16, 2017
Allianz-

The hike in key rates is warranted. Although the US economy got off to only a modest start to 2017, the ongoing firm labor market, which is buoying wage growth, and numerous survey-based indicators are pointing to an acceleration in growth. Moreover, inflation, including the core component, was fairly strong at the start of the year. And, in expectation of a more expansionary stance in other policy areas, valuations in many segments of the financial markets have risen in part sharply in recent months. The Fed is well advised to keep all these signals on its radar. With gradual rate hikes it avoids the risk of falling behind the curve. By waiting too long, it might have to tighten more sharply further down the road.  This would heighten the risk of choking off the economy and triggering turbulence on the financial markets.

The strategy to normalize rates gradually remains intact. Following the cautious normalization seen in the past two years, with only one hike in the federal funds rate each year, the Fed will move up a gear this year. It is projecting two further rate hikes in the course of 2017. For now, a steeper upward trajectory is out of the question given the international divergence in monetary policy since a very strong rise in the greenback would have a negative impact on both growth and inflation.

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