US Federal Reserve drops new hints of a December rate hike

The US Fed kept rates on hold but gave its strongest signal yet that it’s preparing to raise next month.

Federal Reserve chair Janet Yellen. Picture: AFP Photo/Saul Loeb.

The US Federal Reserve has offered its strongest signal yet that it is preparing to raise interest rates in December, a full 12 months after it first lifted monetary policy out of crisis-era emergency settings.

The central bank left rates unchanged at its November meeting but pointed to strengthening inflation, an issue that has made the Fed hesitant to move even as the unemployment rate has fallen steadily.

The Australian dollar eased against the US dollar on the decision, as traders bet that a US interest rate hike in December is now more likely.

One minute before the statement was released, the Aussie traded as high as US76.74c, but dipped to US76.58c shortly after the decision. At 6.10am (AEDT), the unit was trading at US76.60c.

US stocks were in the red before the decision, then dipped on the statement before recovering lost ground as investors parsed the bank’s language. The Dow was 0.3 per cent lower with one hour until the close of trade.

Traders are now pricing in a 71.5 per cent chance that the Fed will lift rates from a range of 25-50 basis points to 50-75 basis points at the December meeting, compared with a 68.4 per cent probability yesterday, according to data from CME Group.

The Fed warned after its September meeting that inflation was “expected to remain low in the near term”, a comment which was not repeated in today’s statement.

Instead, the November statement said “inflation has increased somewhat since earlier this year”, adding that although it was still below the 2 per cent target due to falling energy prices, it was expected to rise to 2 per cent over the medium term.

Similarly, last meeting’s warning that “market-based measures of inflation compensation remain low” was updated to add that such measures “have moved up but remain low”.

Another bright spot was an update in the bank’s regular warning that it would wait for “further evidence” that the economy was improving. After today’s meeting, the Fed only wishes to see “some further evidence”, a change which could indicate a lower bar to a rate hike.

The central bank also said the US jobs market had continued to strengthen, economic activity had picked up from earlier this year and household spending was rising moderately, although it warned that business fixed investment has remained soft.

The more upbeat statement comes after a number of positive data points. Last week, official figures showed the US economy expanded at a rate of 2.9 per cent in the third quarter, handily beating economist predictions of a 2.5 per cent increase.

The Fed’s preferred measure of inflation has been at 1.7 per cent annualised for the last two monthly readings, data this week showed. Although still below the Fed’s target, the measure is at its highest level in two years.

The US added 156,000 new jobs in September, a reasonable gain that still missed market expectations. The next non-farm payrolls data is due late Friday night (AEDT).

Only two officials dissented from the decision to keep rates on hold, with Kansas Fed president Esther George and Cleveland Fed president Loretta Mester preferring to hike at today’s meeting. This shows a more unified board than at the September meeting, where three officials thought it was time to hike.

In December 2015, the central bank expected to lift rates four times this year, but has been hesitant to move not only due to lacklustre domestic data points but also given global volatility.

At the beginning of the year, global markets were turbulent as investors fretted about slowing growth in China. In June, Britain’s surprise decision to leave the European Union also shocked markets around the world.

Several observers pointed out that the bank would be unlikely to move at today’s meeting, given the US election is less than one week away.

Fed chair Janet Yellen has repeatedly emphasised the bank’s “gradual” path to policy normalisation and preference for waiting for improvements in economic data before lifting rates.

The Fed’s next decision will be released at 6am (AEDT) on December 15.