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 Although a tightening of monetary policy is not expected until
mid-2015, the central bank could use a policy statement on Wednesday
to lay important groundwork.
In particular, speculation is rife the policy-setting Federal Open
Market Committee may change its guidance on how long it is likely to
keep rates near zero. The panel may also alter its depiction of the
labor market to suggest further progress toward its goal of full
employment.
Both would signal that a six-year freeze on rates is thawing.
Although the market is betting on a policy change, the Fed could
also stick to its script.
Along with the policy statement it will issue at 2 p.m. (1800 GMT),
the Fed will lay out new economic and interest rate projections that
will extend out to 2017 for the first time. The rate projections -
or "dots chart" - show where individual Fed officials think rates
should be at the end of each year.
Some economists think a spate of mostly good news on the economy
could spur officials to hint at a more aggressive rate-hike path,
which would widen the distance between their views and those held in
the bond market.
"The committee’s median projection for interest rates at the end of
2015 and 2016 could be pushed up a bit as they were in June,
providing a hawkish signal to markets," economists at IHS Global
Insight said in a note earlier this month.
But because the individual forecasts are not labeled, and some
policymakers, such as Chair Janet Yellen, deserve more weight than
others, "it will be difficult to separate the signal from the
noise," the economists warned.
It will be up to Yellen, who holds a news conference a half hour
after the statement and projections are released, to clarify the
Fed's policy intentions.
EYES ON THE LABOR MARKET
The path to a rate increase is hugely important for investors. In
June, the median of the Fed's projections suggested rates would
reach 1.125 percent by the end of next year, more than a quarter
point higher than futures markets have priced in.
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The Fed also needs to decide whether to maintain a pledge to keep
near-zero rates in place for a "considerable time" after its
bond-buying stimulus program ends. With the central bank set to
reduce its monthly purchases to $15 billion this month, the program
will likely end in October.
A number of officials have said they are uncomfortable with an
assurance that is based on the calendar and not the economy's
progress.
"If that language isn't softened at this meeting, then it will
surely be weakened at October's meeting," economists at Capital
Economic said a research note on Tuesday.
Another phrase some economists think could come under the knife is
the Fed's description of slackness in the labor market as
"significant," although they appear to be in the minority.
While the unemployment rate dipped back down to 6.1 percent in
August, job growth slowed and wage gains remained sluggish, factors
that are likely to bolster Yellen's resolve not to move too hastily
in tightening policy.
(Reporting by Michael Flaherty in Washington; Editing by Timothy
Ahmann and Steve Orlofsky)
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