Goldman: Following the large market reaction to Chairman Powell’s speech on Wednesday, we consider how much more dovish Fed commentary has become recently.
1. It is true that Fed commentary has shifted somewhat in a dovish direction. The emphasis appears to have switched from a need for restrictive policy to a stronger focus on data dependence. Additionally, the tone on inflation expectations may also have shifted somewhat in a dovish direction.
2. However, we think that markets have overstated the extent of the shift since early October for three reasons. First, markets put too much weight on Powell’s comment that “We’re a long way from neutral at this point, probably”; we don’t think this was meant to imply a more hawkish view than the dot plot. Second, many commentators misleadingly shortened Powell’s formulation on Wednesday that interest rates remain “just below the broad range of estimates of the level that would be neutral for the economy” to “just below…neutral”. Third, the Fed’s message on the state of the economy, the growth outlook, and the positioning of gradual rate hikes is essentially intact.
3. Overall, we see a larger risk of continued near-term dovish signals and a risk of a downward drift in the December SEP dots to a two-hike 2019 baseline, especially if the data were to disappoint. The November employment report on December 7 is particularly important in this regard, following the recent increase in jobless claims.
4. Looking beyond the next few weeks, recent events have increased the downside risks to our baseline forecast of quarterly hikes through end-2019. However, with growth still well above potential and encouraging signals on consumer spending, we think the unemployment rate is still on track to fall well below the FOMC’s 3.5% end-2019 projection, which would likely keep the Fed on a continued hiking path