Chair Yellen was her magnanimous self today in a speech this afternoon at the Executives’ Club of Chicago. She was especially accommodating (pun intended) in the Q/A after her speech, particularly when asked about the dinner conversation with her Economic-Nobel-Prize-winning husband and PhD Economics Professor Son.
The Chair reveled in the FOMC’s current successful navigation away from ZIRP (zero interest rate policy). She is also securing her legacy for when her term is up next year. All the governors have been traipsing about the country lately talking up a likely third hike in this tightening cycle on March 15 after their next meeting. The CME Group FedWatch Tool, based on the 30-Day Fed Fund futures prices, is now projecting an 80% chance of another hike at the next meeting.
The odds are quite high the FOMC will raise rates for the third time this cycle and the second time in three months. So unless something dramatically negative happens on the economic data calendar or geopolitically we will continue on the long slow path to interest rate normalization. To see how this cycle compares we updated and tweaked our performance table to show the DJIA performance after major Fed tightening cycles began.
This time around the market loves it. Let’s face it, rates are still incredibly low. Even at 0.75 it’s still extremely accommodative. And another thing, this whole range business is rather interesting. Theoretically, a 25 point increase in range doesn’t necessarily mean a 25 point change in the Fed Funds Rate. In fact, since the December 2016 hike the Effective Fed Funds Rate was at 0.55 for four days at the turn of the year, 0.56 on January 31 and 0.57 on February 28.
The real issue here is that this expansion and market rally is contrary to many of the detractors’ fears of imminent recession following rate tightening cycles. Perhaps economic growth is just beginning to find its footing, gain traction and gather momentum. The three steps and a stumble crowd may be sorely mistaken this cycle as it has been in several prior cycles. Every time the Fed raises rates does not necessarily cause a recession immediately. Ultimately it probably will, but not anytime soon.
It is clear in the next chart of the Effective Fed Fund Rate from the St. Louis Fed’s FRED database that there have been several long stretches of time when the Fed had a tightening bias and there was no recession for years! Some of the longer instances for example, roughly, are: 1961-1969, 1977-1979, 1987-1990 and 2004-2007. Sure there were some bears in there, but it’s clear it can take years for rate hikes to lead to recession.