Updated: 08-26-2015To begin thinking about the latest policy directive from the Federal Open Market Committee (FOMC), one should first go back to contemplate what Fed Chair Yellen acknowledged in her monetary policy report a few weeks ago before the House Financial Services and Senate Banking Committees. What she said was this:

"If the economy evolves as we expect, economic conditions likely would make it appropriate at some point this year to raise the federal funds rate target, thereby beginning to normalize the stance of monetary policy."

With that in mind, there has been a rush to judgment that the latest policy directive is dovish because the FOMC did not provide any hint of a rate hike happening at the September FOMC meeting. We see things differently.

A growing number of Fed speakers have made it known that they would like to be able to raise the fed funds rate this year. After today's meeting, there are three more FOMC meetings this year --September 16-17, October 27-28, and December 15-16 -- so the calendar clock is ticking on that desire.

The FOMC could of course raise rates outside of its regularly scheduled meetings, but that is highly unlikely in this instance.

This is an FOMC that likes to stick to the script so to speak, and if events unfolded in a way that necessitated the first rate hike since June 2006 between meetings, it would be a blow not only to the Fed's credibility but to the capital markets as well -- and that's not how the Fed wants the first rate hike to go down.

Anyway, there were many similarities between the directive that was issued in June and the one that was issued today.

There was some brief attention paid in the July directive to improving economic conditions, primarily in the references to the housing sector having shown additional improvement and the underutilization of resources having diminished since early this year (the June directive said they has diminished "somewhat"). Moreover, the FOMC continued to assert its belief that inflation will rise gradually toward 2 percent over the medium term as the "transitory effects of earlier declines in energy and import prices dissipate."

There was no mention of international developments in the directive (i.e. volatility in China's stock market and the Greek bailout drama) and there was no specific mention of the sharp drop in commodity prices, demonstrating that the FOMC hasn't let those happenings change its desire to raise the fed funds rate before the end of the year.

Accordingly, the general "sameness" of the directive and the lack of attention to outside influences on the U.S. economy suggest to us that the FOMC, which voted unanimously for the July policy directive, is still eager to get off the zero bound sometime this year.

We can see why some pundits would view the July directive as dovish. The Fed was careful about the words it used, which made it a fine line between a dovish statement and a hawkish statement.

The hawkish element for us is that the FOMC didn't take this opportunity to highlight factors that might influence it to hold off on a rate hike this year. Instead it plodded along with a view that economic conditions generally point toward prospects for continued improvement.

While it is true the Fed didn't use any specific language to hint at a near-term rate hike, it didn't have to. The Fed Chair talked about that possibility just a few weeks ago and the increasingly clear preference among Fed members for a rate hike to happen sometime this year is already in the public domain.

The market isn't necessarily buying fully into the notion of a rate hike this year. Fed funds futures currently show a 0% probability of a rate hike at the September meeting, a 30% probability at the October meeting, and only a 57% probability of a rate hike at the December meeting.

A lot will happen on the economic front in the coming months to influence the Fed's thinking. There is no question in our mind that the FOMC is eager, if not desperate, to get off the zero bound. It had the excuses at its July meeting (eg. China, commodities, strong dollar) to convey the idea that it might have to push back its rate hike hopes. It did not do that.

The Fed wants to be hawkish in a benevolent way, which is why its main points of emphasis revolve around raising the fed funds rate because the economy is getting better, but remains fragile enough that it will warrant keeping the fed funds rate below levels the FOMC views as normal in the longer run.

There might not be a rate hike at the September meeting, yet the FOMC didn't provide any hint in the July directive either that there wouldn't be one before the end of the year. To be sure, it will be watching the data like a hawk to satisfy its desire.

--Patrick J. O'Hare, Briefing.com
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