Tax cuts pushed Fed to raise economic forecast, meeting minutes show

Federal Reserve officials expect reductions in corporate and personal taxes to boost consumer and business spending, though they remain unsure of the impact of the new tax law, according to minutes released Wednesday from their December meeting.

Members of the Federal Open Market Committee increased their expectations for 2018 GDP growth from 2.1 percent, or about trend since the post-financial crisis recovery, to 2.5 percent.

“Most participants indicated that prospective changes in federal tax policy were a factor that led them to boost their projections of real GDP growth over the next couple of years,” the minutes stated.

The FOMC is the Fed’s monetary policymaking arm. The committee at the meeting voted to increase its benchmark interest rate a quarter point to 1.25 percent to 1.5 percent. The rate is tied to most consumer credit rates.

Much of the discussion as reflected in the minutes show strong observations on the economy. The meeting summary points to significant improvements in payrolls as the unemployment rate dipped to 4.1 percent, and noted that industrial production “increased briskly.”

Holiday spending was “strong” in several Fed districts, as “many participants expected the proposed cuts in personal taxes to provide some boost to consumer spending.” In addition, officials observed that stock market prices improved as well, part of a year in which the S&P 500 rose about 20 percent.

At least some of the credit, particularly for the market gains, went to anticipation of the Republican tax overhaul. Congress had not yet passed the measure when the FOMC met Dec. 12-13. The plan, now law, slashes the corporate tax rate from 35 percent to 21 percent and lowered income tax brackets for most payers.

Mark Grant

“Broad equity price indexes rose over the intermeeting period, likely reflecting in part investors’ perceptions of increased odds for the passage of federal tax legislation and an associated potential boost to corporate earnings,” the minutes stated.

Looking at conditions more broadly, the document said: “Real economic activity appeared to be growing at a solid pace, buttressed by gains in consumer and business spending, supportive financial conditions, and an improving global economy.”

However, the minutes on multiple occasions noted that officials remained unsure over just how much a boost in activity would come from the tax plan. For instance, members were “quite uncertain” about the impact the tax cuts would have on labor supply.

There also was concern, as relayed from business contacts, that the windfall corporations would get from tax cuts would be spent on dividends and share buybacks.

Officials also remained somewhat at loggerheads when it came to inflation. The Fed has consistently missed its 2 percent target for price rises, and members discussed at length the reasons why the reading has remained so low.

Fed officials collectively see inflation likely to meet the target over the medium term, but two members — Neel Kashkari and Charles Evans — voted against the rate hike because they’d like to see more progress on the target.

Most officials “judged that much of the softness in core inflation this year reflected transitory factors and that inflation would begin to rise as the influence of these factors waned.” However, there was some concern “that inflation might stay below the objective for longer than they currently expected.”

On other matters, committee members also were largely dismissive about concerns over the yield curve, or the difference in bond yields across various maturities. While an inverted curve — when short-term rates are higher than longer-term rates — often signals a recession, Fed officials said other factors were likely at play that are less ominous.

“They generally agreed that the current degree of flatness of the yield curve was not unusual by historical standards. However, several participants thought that it would be important to continue to monitor the slope of the yield curve,” the minutes said.

There again were some concerns about market valuations.

While generally looking favorably on the rising stock market indexes, some officials have expressed concern that keeping policy overly accommodative could inflate bubbles.

“In light of elevated asset valuations and low financial market volatility, a couple of participants expressed concern that the persistence of highly accommodative financial conditions could, over time, pose risks to financial stability,” the minutes said.

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