What will be the Federal Reserve’s long-term outlook for interest rates?


The Federal Reserve is widely expected to keep interest rates on hold at its meeting next week but the latest “dot plot” will give insight into the US central bank’s longer-term outlook.

The Fed has lifted rates to a 23-year high range of 5.25 per cent to 5.5 per cent to tame inflation as the US economy defies expectations with solid growth.

The Fed’s dot plot — formally called the Summary of Economic Projections — is a survey of officials, which captures their expectations for where interest rates, inflation and growth will be in the coming years.

The last survey, from March, showed the median Fed voter was still forecasting three cuts to interest rates this year, though inflation had come higher than expected in the first quarter.

Since then inflation has slowed but progress towards the Fed’s long-term target of 2 per cent has been limited. Consumer price inflation slowed in April to a year-on-year rate of 3.4 per cent, from 3.5 per cent in March. That ended a four-month streak in which inflation outpaced economists’ expectations.

Labour market data has also continued to be strong, with May’s jobs gains far outstripping economists’ forecasts, suggesting the Fed has no immediate need to cut rates.

Still, the market is not convinced the Fed will cut rates three times this year. Futures markets are betting the central bank will only lower rates once or twice this year. The Fed’s own forecasts will have an important role in determining those expectations, the effects of which will ripple out into stocks and currency markets too. Kate Duguid

Will the Bank of Japan set out a plan to taper its bond purchases?

Investors are expecting the Bank of Japan on Friday to unveil plans to reduce its purchases of government bonds, as the weaker yen puts pressure on the central bank to unwind its ultra-loose monetary policy.

With sluggish consumption holding back the Japanese economy, the BoJ is not in a rush to raise its policy rate at its two-day meeting next week. The yen has fallen to ¥157 against the dollar as investors focus on the yawning gap between Japan’s low borrowing costs and higher interest rates in the US.

Even so, yields on 10-year Japanese government bonds are close to their highest level in 13 years as investors bet the central bank will announce when it will start tapering its $4.8tn balance sheet.

Last month the BoJ surprised markets by buying a smaller than expected amount of five- to 10-year JGBs as part of its regular purchases, despite saying it would maintain its monthly commitments of government debt at the previous meeting.

The move is expected to bring new challenges for the BoJ as it seeks to extricate itself from financial markets without causing major disruptions. In addition to JGBs, the central bank also owns a majority of locally listed exchange traded fund assets.

“The BoJ has no mandate to manage the currency market,” UBS economist Masamichi Adachi wrote in a recent report. He said the next interest rate rise, from its current level of 0.1 per cent, was likely to be in October. “On the other hand, we expect the Bank will probably reduce Japanese government bond purchases.”

Deutsche Bank expects the BoJ to reduce its monthly JGB purchases from roughly ¥6tn ($39bn) to ¥5tn in July and ¥3tn by next January. Kana Inagaki

Will UK growth data become an election issue?

UK wage and growth data is expected to provide important signposts for traders assessing when the Bank of England will start cutting interest rates.

Economists polled by Reuters forecast economic growth will be flat in April compared to March, when the numbers are published on Wednesday.

Economists say performance is largely down to a rainy month but stagnation may take the shine off the 0.6 per cent expansion in the first quarter, which was the fastest rate in the G7.

It may play into the UK election campaign, where the ruling Conservative party trails Labour by about 20 percentage points in the opinion polls.

However, investors and traders are likely to monitor the GDP data, together with wage data on Tuesday, for clues about the path for UK interest rates.

A Reuters poll of economists forecast annual regular earnings growth grew 6 per cent in the three months to April, unchanged from the previous period.

The period included the impact of the 9.8 per cent increase in National Living Wage, which took effect at the start of April. Policymakers have often expressed concerns about hot wage growth as it keeps pressure on domestic price growth.

Markets and economists expect the BoE will keep interest rates at a 16-year high of 5.25 per cent when it meets on June 20. Swaps markets are pricing in only a 36 per cent chance the Bank cuts rates in August.

“Ultimately the Bank of England is looking for a further loosening in the labour market, which although painful for the individuals affected, is key to returning inflation to 2 per cent on a sustainable basis,” said Ellie Henderson, economist at Investec. Valentina Romei



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