As the Federal Open Market Committee meets on Wednesday next week, markets are anticipating the second rate hike of 2017. The Fed’s current target rate is 75-100 bps, and according the the CME Group’s FedWatch Tool, the probability of moving to 100-125 bps next week is 99.6%. There has never been an “unanticipated” rate hike, so with nearly 100% expectations, it’s safe to confidently await tightening from the at the Federal Reserve June Meeting. Let’s look ahead at some market conditions going into next week’s meeting.Federal Reserve June Meeting

GDP

The Atlanta Fed’s GDPNow forecast for real GDP growth in Q2 is currently at 3%. While this estimate has been ticking down recently, it is still a major boost from a weak 1.2% in Q1. If the forecast is accurate, the economy will have expanded at one of its fastest paces in almost last three years. Some economists however, are anticipating growth to come in well below the forecast.

Federal Reserve June Meeting

Inflation

One of the Fed’s favorite tools for monitoring inflation, the core PCE (personal consumption expenditures excluding food and energy), has not been showing signs of picking up. Chicago Fed President, Charles Evans is concerned about the possibility of inflation running too low rather than too high “The one lingering difficulty, I would say, and it’s an important one, is that inflation pressures are still under-running our 2 percent objective in the U.S., at the moment, I think the downside risks are still predominate.”

Federal Reserve June Meeting – Employment numbers

Curt Long, Chief Economist for the National Association of Federally Insured Credit Unions said “Despite the poor May returns, the Fed’s view of the labor market remains strong enough to support a quarter-point rate later hike this month.” In May, the economy added 138,000 jobs versus expectations of 185,000, while the unemployment rate fell to a 16-year low of 4.3% (which is below the level the FOMC considers full-employment). Some are worried that unemployment is getting too low, as a growing number of companies are struggling to find qualified workers, and having to increase wages in some cases. This may put a damper on growth, except we haven’t seen any evidence of accelerating wages (average hourly earnings growth slowed from 2.51% YoY in April to 2.46% YoY in May, the lowest level since March 2016), so we will have to wait and see how the 4.3% unemployment plays out.

Federal Reserve June Meeting – All Eyes on The Balance Sheet

Many are hoping for the Fed’s minutes on Wednesday to reveal whether they plan to reduce the balance sheet or not. Currently, when one of the Fed’s assets matures, let us say a mortgage backed security, they reinvest it, so to shrink the balance sheet, all they have to do is to stop reinvesting. The concern with this however, is the effect on markets it will have considering the Fed has a $4.5 trillion balance sheet. A minor reduction in the balance sheet will greatly impact interest rates. Most economists though, don’t anticipate the Fed to tackle its balance sheet until late 2017.