FOMC hiked interest rates 25bp,and set forecasts at 3rate hikes in 2017:Heightened inflationary pressures boosted rate hike forecasts

As largely expected by the markets, the Fed chose to hike rates for the first time in a yearduring its December meeting. As we have communicated in our recent reports, economicdata created a solid case for the rate hike; in terms of the Dual Mandate of achieving fullemployment and steady inflation, both have progressed toward Fed targets.

    The job market has shown continued strength in recent months, with the unemployment raterecently falling to 4.6% while nonfarm payroll growth remained steady. While severalunderlying indicators such as the workforce participation rate or the U6-U3 unemploymentspread point to some slack still remaining in the job market, the job market appears to beapproaching full employment, and has been solid enough to support rate hikes.

    The bigger catalyst for the Fed’s December hike and the main reason behind it raising nextyear’s rate hike forecasts is the recent rebound of inflation expectations. In the US, there is astrong case for expecting higher inflation next year, for several main reasons: 1) demand pullinflation should remain solid as GDP growth rebounds, 2) commodity price stabilization orrecovery would result in higher inflation due to the base effect, 3) wage push inflation shouldpick up as the job market nears full employment, and 4) expected higher healthcarepremiums should continue to push up healthcare PCE inflation.

    In light of this, there is a strong case to be made that the Fed will hike rates multiple times in2017, although it is possible that external risks could once again derail the rate hike process.

    We maintain our call for 2-3 rate hikes of 25 bp each in 2017, and believe March is the firstkey meeting to watch. Higher rates could make Trump’s fiscal stimulus more challenging.