Deciphering the September Fed minutes

There’s still a disconnect between market pricing and the Fed’s own rate hike projections, and much of that is down to the sharp fall in core inflation over the past few months. The Fed has been keen to point out that this reflects a range of “idiosyncratic”, or temporary, factors. For instance, taking a quirk in mobile data contracts out of the picture would lift most inflation measures by roughly 0.2ppt.

We expect inflation to gradually pick-up over the next few months

Some Fed members have also pointed at seasonal adjustment issues that typically result in lower core PCE inflation readings in the second half of the year (the same phenomenon that often depresses first quarter growth).

We also expect inflation to gradually pick up again over the next few months, partly as the weaker dollar filters through. And even though the jury is still out over Friday’s huge wage growth figure given recent hurricanes, backward revisions and increasing job-to-job flows should give the Fed some confidence that the tight jobs market is pushing up pay.

But with a number of Fed officials (Neel Kashkari in particular) becoming more vocal about the dip in inflation, markets will be scrutinising the minutes for any signs of doubt creeping into the Fed’s core view.

Over the past couple of months, we’ve seen a range of policymakers refer to stretched asset valuations as the Fed seeks to broaden out its rate hike rationale. Higher stock prices, lower volatility and low bond yields equals easier financial conditions, which in theory means the Fed should hike faster.

Or does it? In the last set of minutes, some dovish members noted that, given secular stagnation and lower yields, higher asset prices may not imply financial conditions are as easy as might have been the case pre-crisis.

This doesn't appear to be the core view amongst the Fed and at this stage is unlikely to slow the Fed down on rate hikes. But the debate is likely to get further airtime in today's set of Fed minutes.