I have written masses about the upcoming FOMC meeting, the upshot of which is that a small taper is likely on Wednesday, but not guaranteed because of uncertainty about the growth outlook (and the prospect of an imminent budget crisis). What I want to do here is proceed on the assumption that the Fed tapers and discuss how it might do so. NB: this is analysis based on insight into how the Fed works. If someone had told me exactly what was going to happen it would be on the front page of the paper.
(A) Designing a taper
The first thing to note is that the FOMC did the hard part in June when it set out a tapering scenario that would see asset purchases end in the summer of 2014 with an unemployment rate of about 7 per cent. That scenario explains why there is uncertainty about tapering in September: with the main parameters already decided, the details of September’s decision do not matter that much, so if individual FOMC officials are passionate about a particular point they may be able to influence the outcome. Read more
For the last three years, there has been no breakfast for journalists on the opening day of Jackson Hole, while we write up a dramatic, market-moving speech by Ben Bernanke. It’s a more sedate start this year with a thoroughly wonkish paper by Stanford’s Robert Hall.
There is not much new in it on policy. It starts with a fairly straightforward rundown on why the economy got into such a mess when interest rates hit zero after the financial crisis, and it ends by agreeing with last year’s paper by Michael Woodford on what to do with monetary policy (QE doesn’t work, you need commitments about future policy, not just guidance).
The meat of Mr Hall’s paper is about why inflation did not fall much after the crisis despite high levels of unemployment. This has been a surprise during the last few years: unemployment has not driven down wages in a way that led to deflation. Read more
The market thinks the June jobs report is taperific and that looks basically correct: at this pace of payrolls growth a September slowing of QE3 seems likely. But there are enough complications to make the market reaction – 10-year Treasury yield up eighteen basis points at 2.68 per cent – look over the top. Read more
When the Fed began its third round of quantitative easing last autumn, the most recent jobs report in hand was for August, which showed an unemployment rate of 8.1 per cent. Today the unemployment rate is 7.6 per cent. The Fed said it would keep buying assets, currently at a pace of $85bn-a-month, until there is a “substantial improvement” in the “outlook for the labour market”. The question is whether the current data meet that condition or at least bring it close enough that the Fed can start to taper its purchases.
(1) There is no need to panic. After the purchasing managers’ index for manufacturing came in below 50 on Monday there was some cause to worry about the health of the economy – but the rise in the services PMI, from 53.1 in April to 53.7, suggests that consumer demand is still there.
The current FOMC meeting, which starts today and concludes tomorrow without a Ben Bernanke press conference, is unlikely to produce much news. Steady movement towards a taper of the $85bn, QE3 programme of asset purchases has been checked by a run of bad economic data since March.
I get no sense that much has changed in the thinking of most FOMC officials. There is still a fair bit of confidence that the underlying state of the economy has improved (see, for example, the comments of Boston Fed president Eric Rosengren). The main effect of weak payrolls and the sequester is to increase uncertainty about the trajectory of the economy. That encourages the status quo – and open-ended QE means the default is continued purchases. Read more
We leaned heavily on the idea that sequestration is slowing the growth of the US economy in our write-up of Q1 GDP. The immediate reason to do so is the composition of growth.
Federal defence spending knocked 0.65 percentage points off total growth. Without that, the headline figure would have been an annualised 3.2 per cent instead of 2.5 per cent, bang in line with expectations. Read more
Here below is the full statement from Carmen Reinhart & Kenneth Rogoff giving an initial response to criticisms of their work: Read more
The Boston Fed’s annual economic conference has opened with a paper on labour force participation, presented by two senior Federal Reserve Board economists Christopher Erceg and Andrew Levin, that has pretty dovish implications for monetary policy.
Like most other research on this subject, they find that the big decline in labour force participation since 2007 is mainly cyclical, not structural. More interestingly, they split the “employment gap” — the gap between current employment and maximum possible employment — into an “unemployment gap” and a “participation gap”.
Goldman Sachs is still the Fed’s favourite counterparty for buying and selling Treasuries – or at least it was in the first quarter of 2011. The data comes out two years in arrears and we are now at the period when $600bn of QE2 purchases were in progress.
Goldman got twice as much of that business as anybody else, which is mildly embarrassing for the New York Fed, but reflects the pecking order in the Treasury market. If you know what happened to Citi’s business during that period then please explain in comments. Read more