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Update: Fed officials 'tight-lipped' about next move but open to October cut

StreetTalk – Episode 70: Banks' Liquidity Conundrum Could Fuel M&A Activity

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Update: Fed officials 'tight-lipped' about next move but open to October cut

In their last remarks before their next decision, Federal Reserve officials expressed an openness to lowering interest rates again this month but avoided committing to any actions.

Fed officials are split over whether they should ease policy for the third time this year at their Oct. 29-30 meeting, but they have done little to explicitly push back against market expectations of another cut.

At an Oct. 18 speech in Boston, Fed Vice Chairman Richard Clarida reiterated that the central bank "will proceed on a meeting-by-meeting basis" as it weighs its next moves. The baseline outlook for the U.S. economy remains healthy, but it is confronting "some evident risks," such as softening business investment, a contraction in exports, a weakening manufacturing sector and slower estimates of global growth, Clarida said.

Those risks were a key factor behind the Fed's rate cuts in July and September, and several Fed officials have worried about their potential to weaken the U.S. job market and weigh on consumers.

Futures markets expect the Fed to ease policy rates again at the October meeting, with the CME Group's FedWatch tool showing a nearly 64% probability of a 25-basis-point cut, a 29% chance that the Fed will opt for a larger reduction of 50 basis points and only a 7% chance that the Fed will keep rates unchanged.

Dallas Fed President Robert Kaplan, who does not vote on the FOMC this year but supported its two rate cuts, told reporters after an event in Washington, D.C., that he is "agnostic" about whether he would favor more easing this month.

"I'm going into the meeting open-minded, but I'm agnostic at this point as to whether we should be taking action at the October meeting," Kaplan said.

That statement mirrored recent comments from Chicago Fed President Charles Evans, who said Oct. 16 he is "keeping an open mind" on whether Fed officials should do more to provide a buffer for an economy facing several uncertainties. Evans voted for the Fed's two rate cuts this year.

Others at the Fed have cautioned against easing policy, noting that U.S. growth projections remain healthy and that lower rates could fuel financial imbalances.

That group of rate-cut skeptics includes Kansas City Fed President Esther George, who said in a speech in Denver that her economic outlook "does not call for a monetary policy response" right now. But she left the door open to supporting rate cuts if the downside risks facing businesses "spill over into the broader economy."

"Looking forward, I will remain attentive to the incoming data for signs that downside risks to the outlook materialize in a way that meaningfully affects broad economic conditions," she said. "Under those circumstances, I would be prepared to adjust monetary policy accordingly."

George is a voter this year on the FOMC and dissented on the Fed's two rate cuts, as did Boston Fed President Eric Rosengren, who said Oct. 11 that the Fed "can be patient" and continue evaluating incoming data before taking action again. He also signaled he would "support aggressive easing" if he saw growth slowing materially.

Although markets are expecting further easing, recent Fed commentary was "inconsistent and ambiguous" regarding a rate cut this month, Ward McCarthy, chief financial economist at Jefferies LLC, wrote in a note to clients. One key issue to watch will be whether the British Parliament goes along with a Brexit deal struck by the U.K. and EU, a development that will provide more clues on "whether or not the global risks facing the U.S. economy often cited by the Fed are intensifying or waning," McCarthy wrote.

The Fed is "being purposely tight-lipped [and] not tipping its hand" before the next FOMC meeting, but a 25-basis-point rate cut is likely, Robert Dye, chief economist at Comerica Bank, wrote in a note to clients.

In one potential sign that weakness is spilling over into the consumer sector, a U.S. Census Bureau report showed U.S. retail sales fell in September for the first time in seven months, declining 0.3%. The Econoday consensus predicted that they would rise 0.3%.

Kaplan, of the Dallas Fed, cautioned against reading too much into the monthly figure, saying the consumer sector remains in "good shape" but that he is watching closely for signs of softness there.

"If we wait to see that weakness in the consumer before taking action, I believe strongly we've waited too long," Kaplan said.

Kaplan said his quarterly projections from September indicated his "base case" was for no more rate cuts this year and one in 2020. But he said that is not "terribly meaningful" since he would be "quite willing" to move his projected rate reduction into 2019 if needed.

"This is a fragile time where this could break either way," Kaplan said. "The jury is very much out, in my mind."