Fed Isn’t Shifting the Goal Posts on Rates, Its Researchers Say

(Bloomberg) -- The Federal Reserve went from forecasting four interest rate increases in 2016 to projecting one, and San Francisco Fed economists say that's perfectly consistent with data-dependency.

Since raising interest rates for the first time in more than a decade last December, the Fed has left rates unchanged while revising down the number of hikes it expects in 2016 to just one. The Federal Open Market Committee holds its final meeting this year on Dec. 13-14.

Officials have been criticized for moving the goal posts on rate hikes as they cited a variety of global and domestic risks as reasons to hold off, even as they pledged that they were data-dependent and would react to incoming information about the economy. In fact, their decision to wait makes sense based on the changes to their forecasts, Fernanda Nechio and Glenn Rudebusch write in a San Francisco Fed economic letter published Monday.

“The projected funds rate revision is not large relative to historical forecast errors,” they write.

The duo's argument starts with the fact that monetary policy projections are highly uncertain and have historically been subject to revision, so “the odds were better than even that the funds rate path would be revised as much as it was.”

Dual Mandate

The Federal Reserve has a dual mandate: to deliver maximum sustainable employment with price stability, which it has defined as 2 percent inflation over the medium term. It calibrates monetary policy to meet these goals and changes in the economic outlook can alter the projected path for rates. 

Likewise, longer-run estimates for where borrowing costs are neutral -- neither supporting nor hindering growth -- also play a role in judging how far and how fast to raise rates over the tightening cycle.

So far this year, the Fed has lowered its forecast for how high its main rate will rise in the longer-run, and forecast revisions have led to a slightly bigger gap between their expectation for joblessness this year, versus the rate they expect to prevail in the longer run. As a result, the downshift in the near-term rate path “appears consistent with past Fed policy behavior in response to evolving economic fundamentals,” the San Francisco Fed researchers say.

“If monetary policy was correctly calibrated at the end of last year, it likely remains so, and the Fed has not fallen behind the curve this year,” they conclude.

To contact the reporter on this story: Jeanna Smialek in Washington at jsmialek1@bloomberg.net. To contact the editors responsible for this story: Brendan Murray at brmurray@bloomberg.net, Alister Bull, Sarah McGregor