On the January FOMC

Today’s FOMC reaffirms the December pivot by dethroning inflation as the only risk, saying it is in balance with risks to full employment. The exclusive focus on rate hikes as the only possible policy change is gone – it’s now the directionally neutral concept of rate “adjustments.” Cuts won’t come until there is “greater confidence” that inflation is heading back to target. Powell wouldn’t define how many months at what low level of inflation would give him that confidence. However, in a slap to Waller, he ruled out using growth or labor market tightness as a causal variable: he will simply look at inflation itself. In the first-ever question about the possibility of deflation, he said he is not expecting it, but if it comes “we’d have to do something about that.” He said there was some discussion about slowing balance sheet run-off, but that serious discussion will come in March. There are two more CPI reports before the March meeting. They will be deflationary, and we think the Fed will have to cut rates then – though this meeting reduced the market-implied probability.