FOMC Statement Fails to Rock the Boat

May 1, 2013

Today’s statement retained the existing quantitative stimulus setting and didn’t modify its language about the outlook for inflation or it’s guidance regarding future policy decisions.  Much of the language reads verbatim as did the prior statement of March 20.  The most meaningful change is the addition a a sentence that allows for two-sided risk surrounding the next modification of its $85 billion per month purchase of long-term securities.

The Committee is prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changes.

The dissent of Kansas City Fed President Esther George gave the identical reason for her objection to present policy, namely “concern that the continued high level of monetary accommodation increased the risks of future economic and financial imbalances and, over time, could cause an increase in long-term inflation expectations.”

The majority didn’t change the description of inflation, which “has been running somewhat below the Committee’s longer-run objective, apart from temporary variations that largely reflect fluctuations in energy prices.  Longer-term inflation expectations have remained stable.  The Committee anticipates that inflation over the medium term likely will run at or below its 2 percent objective.”  As long as unemployment exceeds 6.5% and measured longer-term inflation expectations stay “well anchored,” FOMC officials would need to see actual inflation as measured by the core PCE price deflator exceed 2.5% before raising the exceptionally low federal funds target range of 0-1/4%.

Arguments have been made by different Fed officials and private-sector analysts for both more aggressive and less aggressive stimulus, and today’s statement doesn’t lean definitively toward either camp. 

  • The prediction of future inflation includes sub-target territory of less than 2.0% and an at-target pace of 2.0%.  The latest readings were below.
  • Despite some disappointing jobs data since the March meeting, the statement calls labor market conditions in recent months improved “on balance.”
  • The statement doesn’t deny that quantitative easing may be achieving diminishing returns, or that the risks mentioned in George’s dissent could increase the longer that officials wait before starting to give less gas to the quantitative easing engine.
  • Continuing the status quo for longer than the market has lately been assuming remains a possibility, because factors that might boost inflation or create a qualitatively as well as quantitative improvement of the labor market are not definitively in place.  Unemployment has fallen because of fewer people looking for work, not a faster hiring pace.  A slower-than-expected pace of first-quarter GDP growth means that the output gap is contracting more slowly than hoped, and that will delay the rise of inflation toward its target as well as the decline of unemployment toward 6.5%.
  • The lesson from Europe, where austerity has been embraced more religiously than in America, is that pure austerity in a depressed economy is a failed strategy for reducing the burden of fiscal debt. 
  • Even in the comment from the FOMC’s more dovish members, hints have been dropped of a greater willingness to cut the pace of quantitative easing later this year.  That possibility was not squelched by anything in today’s formal statement.

The next policy meeting is scheduled for June 19 and will be “associated with a Summary of Economic Projections and a press conference by the Chairman.”

Today’s statement doesn’t contain market trend-changing language, but reversals could occur anyway for different reasons related to future data and other factors.  The dollar is stronger now than on March 20 despite lower long-dated Treasury yields.  There was a time when the dollar seemed to move inversely with U.S. share prices, but they, like the greenback, have strengthened since early spring.  Commodities have fallen, and Europe’s problems have become worse.  Most importantly, while Fed stimulus has been steady, stimulus by the Bank of Japan has been greatly expanded, and the ECB is believed to be poised to take the once-frowned step of cutting its interest rates further, including the zero deposit rate.

Copyright 2013, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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