Surveys show that around 90% of primary dealers and economists expect the Fed to raise interest rates in the middle of December. Over the past month, the two-year US note yield has risen by nearly 37 bp to 91 bp.  

The implied yield of the December Fed funds futures contract has risen by 4.5 bp to 21.5 bp at the close before the weekend. It is the highest yielding close in more than a month.  It fully discounts a 25 bp rate hike, IF one assumes that the effective Fed funds rate will average 30 bp (instead of the midpoint of the new range).  

To drive home the point that the cycle will be limited and proceed gradually, the Fed may provide sufficient liquidity to keep the Fed funds rate below the midpoint. In addition, given the importance of the IOER tool (interest on excess reserves) in post-lift-off environment, preserving the widest reasonable gap between IOER, which is set at the top of the Fed funds range, and the effective Fed funds rate would maximize the Fed’s control. No one, of course, knows with confidence where the effective Fed funds rate will trade within the new range. We have not experienced this before.  

Many observers suggest that the data to be released in the holiday-shortened week ahead could solidify expectations of a Fed hike.  We wonder that assessment is valid.  First, expectations in the surveys cannot solidify more, and it is not clear that the December Fed funds contract must. Second, and more importantly, it seems to mistake the shift in the burden of proof revealed in the October FOMC statement. Rather than the economy having to do this or that to convince the Fed to hike rates, it is more that the Fed is ready to go barring an unexpected shock.  

Such a shock will be evident in the data that are being released in the coming days. Due to a more recent data, the estimate for Q3 GDP will likely be revised from 1.5% to at least 2.0% and perhaps a little more. With slower labor force and productivity growth, trend growth in the US is estimated to be close to 2.0%. Growth in the current quarter is tracking a little better than this.