The declines in the prices of bonds and many risk assets since the Fed’s policy announcements last week have followed a sharp rise in the market’s expected path for US short rates in 2014 and 2015. This seems to have come as surprise to some Fed officials, who thought that their decision to taper the speed of balance sheet expansion in the next 12 months, subject to certain economic conditions, would be seen as entirely separate from their thinking on the path for short rates. Events in the past week have shown that this separation between the balance sheet and short rates has not yet been accepted by the markets.
The FOMC under Chairman Bernanke has worked very hard on its forward policy guidance, so there is probably some frustration that the markets have “misunderstood” the Fed’s intentions. Richard Fisher, the President of the Dallas Fed, said that “big money does organise itself somewhat like feral hogs”, suggesting that markets were deliberately trying to “break the Fed” by creating enough market turbulence to force the FOMC to continue its asset purchases. Read more
When we look back on the FOMC meeting on June 19 2013, it will probably be seen as the moment when the Fed signalled that it was beginning the long and gradual exit from its programme of unconventional monetary easing. The reason for this was clear in the committee’s statement, which said that the downside risks to economic activity had diminished since last autumn, presumably because the US economy had navigated the fiscal tightening better than expected and the risks surrounding the euro had abated.
This was the smoking gun in the statement. With downside risks declining, the need for an emergency programme of monetary easing was no longer so compelling. The Fed has been the unequivocal friend of the markets for much of the time since 2009, and certainly ever since last September. That comfortable assumption no longer applies. 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.
Last week anti-capitalist protesters outside the European Central Bank were dominating (at least the local) news in Frankfurt, this week it was the turn of the policymakers inside the building. The ECB is keeping its rates on hold at 0.5 per cent and Mario Draghi, president, has been quizzed on where the eurozone is headed.
The ECB staff’s quarterly economic forecasts have been tweaked, so this year’s contraction is greater than previously forecast at 0.6 per cent and next year’s growth forecast creeps up to 1.1 per cent (but then a year is a long, long time in economic forecasting.)
What else have we learnt? Read more
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
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
Today’s speech by Janet Yellen is a mirror of Ben Bernanke last week when it comes to the costs and risks of continued asset purchases. “At this stage, I do not see any [risks] that would cause me to advocate a curtailment of our purchase program,” she says.
Where Ms Yellen, the Fed vice chair, breaks some new ground is on the definition of a “substantial improvement” in the labour market.
A reminder: the Fed says it will keep on buying assets, currently at a pace of $85bn a month, until it gets that substantial improvement. Ms Yellen sets out five measures which basically form a Fed dashboard for the labour market. Here they are: Read more
All markets want from Ben Bernanke when he testifies before Congress on Tuesday and Wednesday is reassurance that he is not getting cold feet about the Fed’s open-ended, $85bn-a-month, QE3 programme of asset purchases. That follows minutes which, while notably vague, showed “many” participants worrying about QE3′s costs and risks.
They are likely to get that reassurance — although maybe not in the most straightforward manner. It is important to note that, when Mr Bernanke testifies, he is speaking for the committee and not for himself. This is the statutory language: Read more