As Don Rissmiller of Strategas Research Partners succinctly points out, ‘There are four types of government policy that can be used to steer the economy: 1) monetary policy, 2) fiscal policy, 3) regulatory policy, and 4) trade policy.’
We will use Don’s framework for today’s discussion. Monetary comes first.
After eight years of zero-interest-rate policy, the United States’ central bank finally raised its policy interest rate by a quarter point in 2015 and by a second quarter point in 2016. For the last 10 years, the Fed has missed on all of its forecasts of inflation (PCE) and unemployment (U3) and growth (GDP). The originally famous dot plot has become infamous, and one member of the FOMC did not even hazard a forecast as of the last meeting. (See ‘December FOMC Minutes,’ by Bob Eisenbeis.)
Markets seem to be expecting two Fed hikes in 2017. So our base-case forecast for the end of 2017 is a policy rate range of 1.25% to 1.5%. That would put three-month LIBOR at about 2%. We expect the 10-year US Treasury note to yield around 3% or so. We believe the tax-free bond market sell-off was wildly overdone, and we expect the present 4% level on tax-free high-grade Munis to give way to the 3% handle level. Beyond 2017 is still guesswork, since the details of Trump policies are only guesses. We think this will change quickly, and then markets can refine estimates of Fed policies and rate forecasts.
This lack of clarity and base-case assumption about the Fed was well articulated by Phillipa Dunne & Doug Henwood in the Liscio Report:
This post was published at FinancialSense on 01/17/2017.