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Fed rate hike likely this week; observers anticipate more hawkish outlook


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Fed rate hike likely this week; observers anticipate more hawkish outlook

With another interest rate hike from the Federal Reserve all but certain this week, analysts say the bigger question is whether Fed officials signal a fourth increase is likely this year.

The Federal Open Market Committee is expected to raise the federal funds rate by 25 basis points when its meeting, the first under Fed Chairman Jerome Powell, concludes March 21.

Observers will watch closely to see whether Powell highlights the need for additional near term tightening during his first post-meeting news conference. They will also parse the quarterly economic projections to see whether Fed officials favor a steeper rate path than expected by markets.

Powell told Congress last month his "personal outlook for the economy has strengthened," and other Fed officials have also struck more hawkish tones in recent weeks.

"To be sure, there will still be a dispersion of views for this year," Seth Carpenter, chief U.S. economist for UBS and a former Fed staffer, wrote in a research note, "but Powell laid out a logical argument that seemingly should apply to each participant: whatever you thought in December, a bit more is likely needed now."

A rate hike from the FOMC would increase the benchmark rate to a target range of 1.5% to 1.75% and would be the sixth hike since the Fed gradually began raising rates in December 2015.

Fed officials have said they want to continue that gradual process, with the unemployment rate at a 17-year low of 4.1% but inflation still below the Fed's 2% target. The central bank's preferred inflation gauge was at 1.5% year over year in January, unchanged from the previous two months.

Futures markets suggest there is a 93% chance of a rate hike this week, according to the CME Group's FedWatch tool, which also indicates markets are increasingly anticipating four rate hikes in total from the Fed this year.

In December 2017, when Fed officials made their last round of projections, they had penciled in three rate hikes for this year. But those projections came before Congress finalized a package of tax cuts that is expected to lift growth this year, along with another deal that would boost federal spending.

"We've got a lot of fiscal stimulus coming online," said Ken Matheny, executive director of Macroeconomic Advisers at IHS Markit. "It's going to be a significant factor in boosting growth for the next couple of years."

Observers have noticed a few shifts in language from key Fed officials in recent weeks. In his prepared testimony to Congress, for example, Powell mentioned the possibility of an overheated economy as something the Fed will continue guarding against. He also said that some of the previous headwinds holding back the economy are now turning into tailwinds. Fed Governor Lael Brainard, one of the FOMC's more dovish members, struck a similar tone in a speech this month.

If Fed officials do boost their rate outlook for 2018, they would do so through the so-called "dot plot" that shows where FOMC participants believe the federal funds rate should be at the end of the year.

That dot plot may change a bit given that former Fed Chair Janet Yellen has now left the FOMC, but several others would have to shift up their projections to move up the median and indicate more rate hikes might be appropriate.

Carpenter, of UBS, predicts the new projections will show Fed officials favor four rate hikes in 2018.

Others are not so sure the Fed will upgrade its rate hike projections yet. That includes former Fed Governor Larry Meyer, who is now president of the research firm Monetary Policy Analytics.

"The market is already expecting slightly more than three; there's no urgent need at this time to raise that expectation," Meyer wrote in a note to clients.

One topic that is sure to come up at the FOMC meeting is the tariffs that President Donald Trump's administration is imposing on steel and aluminum imports — and whether the possible retaliations from other countries may dampen growth.

Dwight Johnston, chief economist at the California Credit Union League, said the issue is one Fed officials are keeping a close eye on but one that so far has not shown signs of majorly affecting their economic outlook.

"If that develops into something serious, that could certainly derail the economy to some extent. ... If we don't get that, then all signs are pointing to things continuing to get stronger this year," he said.