The Fed stuck to its guns, raising rates by a quarter point and calling for another hike this year, in spite of some pretty dreadful inflation earlier that has the market doubting the central bank's willingness and ability to tighten again in the near-term. The Fed seems to be prepared to move quickly so it has room to manoeuvre when the next recession hits. The Fed looks to be positioning for a downturn but if inflation continues to underperform this may well be the last hike of the year.

Market reaction to the statement was pretty muted - the hike was priced in and the big move happened earlier in the day after the CPI release. Bond yields and the dollar barely budged on the release - a sign that the market doesn’t really think the Fed has the scope to be any more hawkish. Both had slumped earlier in the day on weak inflation and retail sales numbers, which cast doubt on the capacity to normalise rates. The dollar did recover some more ground on some fairly hawkish jawboning by Janet Yellen, who offered a pretty upbeat assessment of the data in her initial remarks at the press conference, particularly around the labour force participation rate. Markets expected the Fed to maybe sound a bit more dovish, hence the slight rally in the dollar and US yields after the release.

The Fed thinks inflation is not going to accelerate as quickly this year as previously. This is hardly a surprise given the recent data. Policymakers downgraded their forecast for core inflation in 2017 from 1.9% in March to just 1.7%, a sign that they are clearly concerned about disinflationary pressures taking a grip. But not concerned enough - they clearly think that the soft inflation is transitory and left forecasts in tact further out.

Forward guidance doesn’t look that much different from before. Officials seem convinced of one more hike this year and agreed on 1.4% for 2017, 2.1% for 2018 and 3% in 2019, marginally up from 2.9% guidance in March.

They have lowered the median estimate for the long-run unemployment rate from 4.7% in March to 4.6%. This looks minor but highlights that they think the correlation between unemployment and inflation is less than before and that the headline employment numbers don’t matter so much for inflation. Acceptance to some degree that the Phillips Curve isn’t holding so well. Balance sheet reduction seems to be coming later this year in a form that matches what we'd come to expect. The also stressed it could start turning to QE again if required.

Yellen thinks growth has rebounded from a poor Q1, consumer spending is on the up and business investment improving. All this suggest a moderate pace of expansion - no real change to what we'd anticipated.

Where is the inflation? The conundrum for the Fed is the lack of inflation, which it had assumed would accelerate this year as job creation remains robust and stimulus measures were anticipated to support growth. Today’s inflation and retail sales figures clearly are weighing. The lack of inflationary pressure suggests that softness in the hard data is not as transitory as the Fed liked to think. Meanwhile the chances of any of Trump reflationary fiscal policies coming to fruition recede by the day. The Fed is in tightening mode with inflation not really playing ball - it risks getting it wrong if it pushes too hard, too fast.The question that many rightly ask is what is the risk of leaving rates unchanged given the lack of inflation.

Inflation slipped back 0.1% in May versus expectations for it to climb 0.2%. This dragged the annual rate back to 1.9% but most startlingly of all, the core CPI rate remains at practically zero month-on-month and has increased a mere 0.1% over the last three months. For all the talk of the Trump reflation trade there does not seem much of this playing out on the ground. This is mirrored in the markets, with the 10-year yield back to levels seen before last November’s election. The dollar too looks to have had its time in the sun and is back to where it was last October.

In a reflationary environment core CPI should be moving forward month on month but it’s just not happening. There really ought to be a lot more inflation. We have to surmise that this is partly down to significant additional slack in the labour market not being picked up by the official data. The labour force participation rate has collapsed and it’s here we think there is unused potential that is keeping a lid on wage growth. Interesting that Yellen said policymakers think that given the demographic changes (ageing population) steady labour participation is actually a sign of health. It's all relative I suppose.

It’s impossible to labour the point enough - full employment is not what it suggests when the labour force participation rate has cratered. The market has to start paying less attention to the headline nonfarm payrolls and focus on the deeper employment data. Participation has collapsed - from about 66% to just under 63%. A one per cent rise in the labour force rate is equivalent to two million new workers - that is a huge disinflationary pressure on wage growth. Meanwhile the huge structural problem of low productivity growth is ensuring wages don’t rise.

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