KResearch has assessed that the US Federal Reserve (Fed) will maintain its policy rate at 0.0-0.25 percent during its upcoming monetary policy meeting on June 15-16, 2021, despite the rising inflation. The accelerating inflation can be primarily attributed to the resumption of economic activities after reopening of cities, pent-up demand, supply chain bottlenecks and the low base in 2020. Since some of these factors will likely ease over the forthcoming period, the recent pickup in inflation may only be temporary, and may gradually drop as the year progresses. Such a scenario may prove insufficient in pressuring the Fed to implement QE tapering in the short run. Meanwhile, the Fed will likely focus more on economic recovery than inflationary pressures. Based on the latest indicators, the labor market remains fragile and could take a long time to fully recover in accordance with the Fed's target.
At this upcoming meeting, the Fed will announce its economic projections, wherein the Fed's GDP growth and inflation forecasts will pinpoint its economic outlook and signal the trends for monetary policy going forward. KResearch believes that the Fed will keep its economic and inflation forecasts steady during the FOMC meeting, including largely unchanged Fed 'Dot Plot' projections. If the Fed raises its economic and inflation forecasts, the Fed Chair Jerome Powell's statement is expected to calm market anxiety over QE tapering and reassert the Fed's stance on accommodative monetary policy for the rest of the year amid significant economic uncertainty.
Over the past month, the Fed has begun selling an increasingly large amount of bonds back into the money market through the reverse repurchase agreement (reverse repo) as demand for the Fed's reverse repo facility has surged. This resulted from the US Department of the Treasury's expedited loan disbursement, achieved through cash drawdown from its bank account at the Federal Reserve – formally known as the Treasury General Account (TGA). As the TGA is run down, a tremendous amount of liquidity will enter the financial system and subsequently drive up the demand to park cash through the reverse repo facility, since the program offers higher yields than other options with negative interest rates. Surging demand for reverse repo facility will be a factor that raises bond prices and reduces their yields amid enhanced liquidity. This could push the inflation rate and asset prices even higher. Hence, the Fed could face challenges in maintaining a loose monetary policy and eventually be forced to taper its easing monetary policy in the near future. Therefore, the Fed will eventually have to allow interest rates to rise.