As a senior economist and central bank strategist, I have performed a comparative analysis of the FOMC statements from October 24, 2012, and December 12, 2012. This period represents a pivotal shift in the Federal Reserve's communication strategy, moving from "date-based" to "threshold-based" forward guidance.
Information received since the Federal Open Market Committee met in ~~September~~ October suggests that economic activity ~~has continued~~ and employment have continued to expand at a moderate pace in recent months, apart from weather-related disruptions. ~~Growth in employment has been slow, and the~~ Although the unemployment rate ~~remains~~ has declined somewhat since the summer, it remains elevated. Household spending ~~has advanced a bit more quickly~~ has continued to advance, ~~but~~ and the housing sector has shown ~~some~~ further signs of improvement, but growth in business fixed investment has slowed. Inflation ~~recently picked up somewhat, reflecting higher energy prices~~ 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.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee remains concerned that, without sufficient policy accommodation, economic growth might not be strong enough to generate sustained improvement in labor market conditions. Furthermore, strains in global financial markets continue to pose significant downside risks to the economic outlook. The Committee also anticipates that inflation over the medium term likely ~~would~~ will run at or below its 2 percent objective.
To support a stronger economic recovery and to help ensure that inflation, over time, is at the rate most consistent with its dual mandate, the Committee will continue purchasing additional agency mortgage-backed securities at a pace of $40 billion per month. ~~The Committee also will continue through the end of the year its program to extend the average maturity of its holdings of Treasury securities, and it is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities.~~ The Committee also will purchase longer-term Treasury securities after its program to extend the average maturity of its holdings of Treasury securities is completed at the end of the year, initially at a pace of $45 billion per month. The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and, in January, will resume rolling over maturing Treasury securities at auction. These actions, ~~which together will increase the Committee’s holdings of longer-term securities by about $85 billion each month through the end of the year, should put~~ should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative.
The Committee will closely monitor incoming information on economic and financial developments in coming months. If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of ~~agency mortgage-backed~~ Treasury and agency mortgage-backed securities, ~~undertake additional asset purchases,~~ and employ its other policy tools as appropriate ~~until such improvement is achieved in a context of price stability~~, until such improvement is achieved in a context of price stability. In determining the size, pace, and composition of its asset purchases, the Committee will, as always, take appropriate account of the likely efficacy and costs of such purchases.
To support continued progress toward maximum employment and price stability, the Committee expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the ~~economic recovery strengthens~~ asset purchase program ends and the economic recovery strengthens. In particular, the Committee ~~also~~ decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that ~~exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015~~ this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee’s 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored. The Committee views these thresholds as consistent with its earlier date-based guidance. In determining how long to maintain a highly accommodative stance of monetary policy, the Committee will also consider other information, including additional measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments. When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent.
Voting for the FOMC monetary policy action were: [List of names]. Voting against the action was Jeffrey M. Lacker, who opposed ~~additional asset purchases and disagreed with the description of the time period over which a highly accommodative stance of monetary policy will remain appropriate and exceptionally low levels for the federal funds rate are likely to be warranted~~ the asset purchase program and the characterization of the conditions under which an exceptionally low range for the federal funds rate will be appropriate.
| Removed | Added | Significance |
|---|---|---|
| "mid-2015" (Date-based guidance) | "unemployment rate remains above 6-1/2 percent" (Threshold-based) | Major Shift: Moves from a calendar date to specific economic triggers for rate hikes. |
| "Inflation recently picked up... reflecting higher energy prices" | "Inflation has been running somewhat below... objective" | Pivot: Shifts from noting a slight uptick to emphasizing that inflation is actually too low. |
| "continue... program to extend average maturity" | "purchase longer-term Treasury securities... at a pace of $45 billion per month" | Policy Expansion: Transitions from "Operation Twist" to open-ended QE of Treasuries. |
| "Growth in employment has been slow" | "economic activity and employment have continued to expand" | Optimism: Slight upgrade in the assessment of labor market momentum. |
The Committee has shifted from a neutral/observational tone regarding inflation to a more concerned one. In October, they noted inflation "picked up somewhat." By December, they explicitly state inflation is "running somewhat below" their objective. This justifies the expansion of asset purchases, as the Fed is signaling that the risk of deflation/low inflation outweighs the risk of overheating.
There is a subtle but important upgrade in the assessment of the economy. The phrase "growth in employment has been slow" is replaced by the statement that employment has "continued to expand." However, the Committee maintains that the unemployment rate "remains elevated," ensuring that the justification for stimulus remains intact.
This is the most significant structural change in the statement. The Fed has abandoned the "date-based" guidance (mid-2015) in favor of "threshold-based" guidance. By tying the federal funds rate to a specific unemployment rate (6.5%) and inflation projections, the Fed is providing the market with a clearer, data-dependent roadmap, effectively committing to keep rates low for longer if the labor market doesn't hit specific targets.
Verdict: Strongly Dovish
The Committee has shifted significantly in a Dovish direction. While the economic assessment is slightly more positive, the policy response is aggressively accommodative. The Fed did three things to signal this: (1) it transitioned from a fixed date for rate hikes to a threshold (6.5% unemployment), which provides more flexibility to keep rates low; (2) it expanded its balance sheet by initiating new monthly purchases of long-term Treasuries ($45bn/month); and (3) it explicitly characterized inflation as being "below" its objective. These changes collectively signal a commitment to prolonged stimulus to ensure the recovery is self-sustaining.