The Big Picture

Column Summary:

*The Fed kept its key interest rate unchanged at 4.25-4.50%, maintaining a cautious stance.

*Economic uncertainty has increased; risks of higher unemployment and inflation have both risen.

*The Fed remains in "wait-and-see" mode, requiring more data before future policy changes.

The Federal Open Market Committee (FOMC) voted unanimously at its May meeting to maintain the target range for the fed funds rate at 4.25-4.50%, as was widely expected.

In a commensurate action, it was decided that the Fed will roll over at auction the amount of principal payments from the Federal Reserve's holdings of Treasury securities maturing in each calendar month that exceeds a cap of $5 billion per month and reinvest the amount of principal payments from its holdings of agency debt and agency MBS received in each calendar month that exceeds a cap of $35 billion per month into Treasury securities. That is unchanged from its March directive.

The changes in the May directive that jumped off the page are the acknowledgments that uncertainty about the economic outlook has increased further (emphasis our own) and that the Committee "...judges that the risks of higher unemployment and high inflation have risen."

That assessment will be construed by some as a burgeoning concern about stagflation taking hold (i.e., low growth, high inflation, and high unemployment). That is not a good environment for stocks, as low growth would translate into weaker earnings growth; meanwhile, high inflation would likely prevent the Fed from cutting rates to help jumpstart growth out of fear that the lower rates would exacerbate inflation pressures.

Briefing.com Analyst Insight

The main takeaway from this view is that it is a setup for the Fed to remain in a wait-and-see mode.

Sure enough, the main message from Fed Chair Powell's press conference is that the Fed is in a wait-and-see mode because there is so much uncertainty around the new administration's policies and their effect on the economy.

The reporters attending the meeting attempted repeatedly to get him to divulge the reasons for why the Fed would favor one side of its dual mandate over the other in changing policy, and each time he deftly avoided tipping the Fed's hand, noting that the Fed simply needs to see more data.

It is the Fed Chair's opinion, however, that policy is in a good place that allows it to be patient in waiting for more data.

He also stressed many times that the softness seen in the survey data has not yet shown up in the hard data. That's not to say that he thinks it will, only that the Fed still hasn't seen empirical evidence in the hard data that corroborates the drastic weakening in sentiment readings.

It will be watching for that, but Mr. Powell said the Fed thinks it can be patient because the costs of waiting to see further data are fairly low.

All in all, the Fed Chair's views weren't surprising at all. The lack of visibility is a universal affliction at this juncture. Fittingly, the stock market didn't react much to the views the Fed Chair expressed at the press conference because (1) the only clear-cut view is that the Fed, like the rest of us, is waiting to see what shows up in the data, and (2) the market appreciates, somewhat begrudgingly, that's all the Fed can do.

--Patrick J. O'Hare, Briefing.com

(Editor's note: The next installment of The Big Picture will be posted the week of May 19.)