Fed officials see more tightening and favour shrinking US$4.5 trillion balance sheet

Most Federal Reserve officials judged “it would soon be appropriate” to tighten monetary policy again and backed a plan that would gradually shrink their US$4.5 trillion balance sheet.

“Most participants judged that if economic information came in about in line with their expectations it would soon be appropriate for the committee to take another step in removing some policy accommodation,” according to minutes from the Federal Open Market Committee’s May 2-3 gathering released on Wednesday in Washington.

The statement points toward a hike as soon as the Fed’s meeting in mid-June, though FOMC voters added the caveat that “it would be prudent” to wait for evidence that a recent slowdown in economic activity had been transitory.

Officials opted at the May meeting to leave the target range for their benchmark lending rate unchanged at 0.75 per cent to 1 per cent. They have projected three rate increases in 2017, including the hike they made in March.

Investors see a solid chance of a rate move in June, with pricing in federal funds futures indicating nearly an 80 per cent chance of an increase.

Policy makers have also said they would like to start shrinking their bloated balance sheet by year-end, a move that may lift longer-term borrowing costs and dampen growth.

At the May meeting, nearly all officials “expressed a favourable view” of a staff-presented general approach to shrinking the balance sheet that would involve gradually increasing run-off caps every three months. The caps would eventually reach fully phased-in levels, which would then be held in place until the size of the balance sheet was normalised.