Fed up?

Fed hears data more loudly than IMF and World Bank

The institutions have urged the US central bank to delay interest hikes into 2016, but Fed Chair Janet Yellen and her colleagues see rates starting upward this year.

Earlier this month, the International Monetary Fund (IMF) suggested the US economy wasn't yet solid enough and the World Bank warned that higher short-term dollar interest rates could damage fragile global growth. The reasons given for the Fed to avoid rate hikes for now included low inflation and tepid wage growth.

Yet all but two of the 17 members of the Federal Open Market Committee (FOMC) think interest rates will rise this year, according to information provided with Wednesday's committee statement. That's partly thanks to gradually firming economic and financial conditions, but it also reflects an improving job market.

The US unemployment rate is nearing what is traditionally seen as its natural level of around 5 per cent. But the Fed has a second mandate, which is to keep inflation under control. There's little sign of trouble there, suggesting rate hikes could wait. That's a dilemma in itself, but with the self-professedly data-driven Fed, there's another problem in that both metrics are now looking fairly static.

That seems to be putting more focus on growth and wages. Recent data suggest some firming of the latter, but the Fed on Wednesday revised its central estimate for GDP expansion this year downward by about half a percentage point to barely 2 per cent. That helps explain why, although most FOMC members expect rate hikes this year, they've pushed down projections for how high rates will get in 2016 and 2017.

Investors aren't fully convinced that "liftoff" will be a 2015 event. The prices of traded futures imply no increase in July, according to the CME's FedWatch analysis, with a mere 19 per cent chance of a move in September and only a 56 per cent probability by year-end. That may underestimate the Fed's desire to start lifting rates toward more typical levels than the current near-zero mark. But any weaker data could hold the FOMC back - and give the IMF and World Bank the breathing room they want.