Federal Reserve Chairman Jerome Powell.
Sarah Silbiger/Getty ImagesThe Federal Reserve on Wednesday took the first tentative steps to eventual normalization of its ultra-accommodative monetary policy: It started to talk about it.
Except for the anodyne observation about the progress of vaccination in controlling Covid-19, the Federal Open Market Committee’s policy statement released at the end of its two-day meeting made few changes from its late-April get-together. The panel’s Summary of Economic Projections essentially brought the 2021 numbers up to date with the stronger-than-expected economic and inflation data already released, but made little change in the forecasts for the next two years.
What got the markets’ attention was the increase in the FOMC members’ anticipation for a liftoff in the federal-funds target rate during 2023. The median guess for that year among the committee members rose to 0.6% from 0.1% previously, which roughly corresponds with the current target range of 0%-0.25% for the Fed’s key policy rate. (Actual increases in the interest rate on excess reserves and on the Fed’s reverse repurchase rates were technical and not policy-related.)
MUST-READS on the Economy
While an eventual fed-funds hike was penciled in for two years from now—an eternity in market terms—more proximate was the Fed’s much-anticipated plans for its massive $120 billion monthly asset purchases. In his postmeeting press conference, Fed Chairman Jerome Powell said this confab was the one where the FOMC finally got to “talking about talking about” the process of slowing its buying.
Mindful of the notorious “taper tantrum” back in 2013, when the Fed started to talk about trimming its bond buying, Powell made it clear the monetary authorities would give ample notice of when and how much the central bank will cut back its purchases. He added the discussions will continue at the next confab, which is slated for July 27-28.
Greg Peters, head of multi-sector and strategy at PGIM Fixed Income, thinks Powell will likely outline the Fed’s plans at the big policy meeting at Jackson Hole, Wyo., at the end of August, which is also anticipated by many Fed watchers and market participants. The process of reducing the purchases could be under way by late in the year or early 2022, he added.
Powell insisted there would be no move away from the Fed’s supereasy policy without substantial further progress on its goals of getting inflation above its 2% target for some time and getting close to maximum employment. On the former, he reiterated that many of the factors pushing up inflation—now running at a 5% year-over-year rate for consumers—are the result of temporary factors related to the reopening of the economy, such as the soaring prices of lumber, used cars, and airline tickets. Those should recede as supply catches up with demand, according to the Fed’s official line.
As for the labor market, Powell also noted the discrepancy between record job openings and continued high unemployment. He looks for job growth to improve once temporary factors curbing job seekers—including continued fears of Covid, lack of child care until schools and day reopen, and extra jobless benefits, which are beginning to expire—abate.
Yet the question remains about the appropriateness of superstimulative monetary policy, which was put in place during the pandemic-induced collapse of the economy in March 2020, now that a vigorous recovery is in progress and states such as New York and California have dropped the last of their Covid-related restrictions.
Peters says that once the cyclical forces are spent, he expects the secular forces of disinflation to reassert themselves. Demographics and debt point to a resumption of slower growth ahead, he adds. Despite an uptick in the benchmark 10-year Treasury yield after the FOMC release, to 1.566% from 1.485%, he looks for a move down to the 1.25%-1.50% range, rather than a resumption of the rising trend seen early in the year.
The prospect of an eventual tightening of U.S. monetary policy also was felt in the currency markets. The U.S. Dollar Index jumped 0.9%, albeit from near its low for the year.
But Joe Carson, the former chief economist at AllianceBernstein, forcefully argues in his blog on LinkedIn that the Fed’s failure to end its asset purchases and lift interest rates means it’s missing the asset bubbles around it.
“If the equity market craters for more than a week, that would prove that an asset bubble exists. Missing the past two asset bubbles was viewed by many as a policy blunder; missing it for the third time will force a major change in the personnel and framework of the Fed,” he concludes.
While the stock market sold off initially in reaction to the FOMC statement, the major indexes pared their losses, apparently helped by Powell’s soothing words that any move to less accommodation is a ways off. That will depend on inflation receding, as the Fed optimistically expects, however.
Write to Randall W. Forsyth at randall.forsyth@barrons.com
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