Heading into this week’s Federal Open Market Committee meeting, most expected another rate hike, and the Fed delivered. With one dissenter, the committee voted to up the target federal funds rate to a range of 1 to 1.25 percent. This marks the fourth quarter-percentage point rate increase since the Financial Crisis—the first one, of course, didn’t occur until December 2015.

While the 25 basis point bump was no surprise, its policy statement and FOMC economic projections were still very much of interest because they provide insight into the Fed’s future course of action.

The Fed statement revealed that the U.S. central bank feels more confident about the state of the economy. While it described the economy as have slowed previously, the current statement states that “economic activity has been rising moderately so far this year.” It also noted that household expenditures have risen lately and business fixed investments are expanding. Inflation, however, declined and is still running below the Fed’s 2-percent target.

The Fed also added the following language: “The Committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated. This program, which would gradually reduce the Federal Reserve’s securities holdings by decreasing reinvestment of principal payments from those securities, is described in the accompanying addendum to the Committee’s Policy Normalization Principles and Plans.”

Minutes from recent meetings and commentary from officials had already telegraphed that the Fed may begin to reduce its bloated balance sheet beginning this year, but this is the first time that the language has been added to the policy statement.

To reduce its roughly $4.5 trillion balance sheet, the Fed plans to gradually stop reinvesting some maturing debt securities. The initial plan is to allow up to as much as $6 billion in maturing Treasurys and $4 in maturing mortgage-backed securities to simply expire every month. The caps will be raised every three months until the ceiling rate is reached—$30 billion for Treasurys and $20 billion for mortgage-backed securities per month.

It was always merely a matter of time that the Fed would have to rewind the balance sheet built up to combat the Financial Crisis, and it has decided to start sometime this year, though the exact timing hasn’t been revealed.

The Fed stated that it targets a balance sheet somewhere between the current $4.5 trillion level and the pre-crisis level, which was about $800 billion; the wide range of possibilities that leaves Janet Yellen and her lieutenants a lot of room to maneuver and adjust in response to economic conditions.

Looking at the quarterly-released economic projections, the FOMC committee members improved their 2017 real GDP outlook to 2.2 percent—the March projection was 2.1 percent. Their unemployment rate projection for 2017 also improved, from 4.5 percent in March to 4.3 percent now. For 2018, it was lowered from 4.5 percent to 4.2 percent. However, the inflation projection was lowered to 1.6 percent from 1.9 percent. Meanwhile, their expected fed funds rate projection remained unchanged, implying one more rate hike this year.

Overall, the latest Fed communications suggest that the monetary policy decision makers are feeling confident and unfazed about some mixed economic data lately.
 
We think the lower energy prices lately has been a positive for the market (with the notable exception of energy stocks). Sharply rising oil prices tend to be a contractionary factor for the economy and the stock market. It’s helped to offset the disappointment from economic boosts expected from President Trump.