Why Not 50?

Asking if the Federal Reserve will lift the federal funds rate on June 13 is like asking if Las Vegas Golden Knights goalie Marc-Andre Fleury, who has stopped 94.7% of the shots against him in the 2018 Stanley Cup playoffs, will stop the next one. It's a virtual lock.

And everyone knows the rate hike is almost guaranteed to be the very same 25 basis point (bp) increment the Fed has used six times in the current rate hiking cycle, starting in December 2015. In fact, that's the same 25 bp increment the Fed used consistently between June 2004 and June 2006, totaling seventeen drip-drip-drip rate hikes in all. That campaign lifted rate 425 bps total, every one of which was telegraphed. Rates moved from a starting point of 1% to a peak of 5.25%.

We need to go all the way back to May 2000 to find a meeting at which the Fed raised rates by 50 bps – the final rate hike of that cycle – after a series of 25 bp hikes that started in mid-1999. In other words, the Fed has become comfortable and predictable with 25 bp moves, which seems to be all about not getting blamed for any kind of short-term market turmoil.

So why not raise by 50 bps?

Everyone knows the Fed will lift rates by at least another 50 bps this cycle. The federal funds futures market puts the odds of the Fed raising rates by less than 50 bps this year at 6.6%. We're sure the odds would be even lower if we included 2019. That's as close to a sure thing a Marc-Andre Fleury.

So, if the Fed is going there anyhow, why not get there sooner? Why not get to a neutral monetary policy more quickly? Why be so predictable?

Raising rates by 50 bps this early in the cycle isn't going to make monetary policy tight. Right now, nominal GDP (real GDP growth plus inflation) is up 4.8% in the past year and up at a 4.4% annual rate in the past two years, well above the current federal funds target of 1.625%. The 10-year Treasury yield is about 145 bps above the funds rate. Meanwhile, the banking system is chock full of excess reserves and a record amount of capital. Congress and executive agencies are moving to undo some of the excess regulations on the banking system, there are no major bubbles in the financial system, and corporate balance sheets are in fantastic shape.