As a senior economist and central bank strategist, I have performed a comparative analysis of the FOMC statements from July 31 and September 18, 2013. This period is critical as it captures the "Taper Tantrum" era, where the market reacted violently to hints of reducing Quantitative Easing (QE).
Information received since the Federal Open Market Committee met in ~~June~~ July suggests that economic activity ~~expanded~~ has been expanding at a ~~modest~~ moderate pace ~~during the first half of the year~~. Some indicators of labor market conditions have shown further improvement in recent months, on balance, but the unemployment rate remains elevated. Household spending and business fixed investment advanced, and the housing sector has been strengthening, but mortgage rates have risen ~~somewhat~~ further and fiscal policy is restraining economic growth. ~~Partly reflecting transitory influences~~ Apart from fluctuations due to changes in energy prices, inflation has been running below the Committee's longer-run objective, but longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that, with appropriate policy accommodation, economic growth will pick up from its recent pace and the unemployment rate will gradually decline toward levels the Committee judges consistent with its dual mandate. The Committee sees the downside risks to the outlook for the economy and the labor market as having diminished ~~since the fall~~, on net, since last fall, but the tightening of financial conditions observed in recent months, if sustained, could slow the pace of improvement in the economy and labor market. The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, but it anticipates that inflation will move back toward its objective over the medium term.
Taking into account the extent of federal fiscal retrenchment, the Committee sees the improvement in economic activity and labor market conditions since it began its asset purchase program a year ago as consistent with growing underlying strength in the broader economy. However, the Committee decided to await more evidence that progress will be sustained before adjusting the pace of its purchases. Accordingly, ~~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 decided to continue purchasing additional agency mortgage-backed securities at a pace of $40 billion per month and longer-term Treasury securities 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 of rolling over maturing Treasury securities at auction. Taken together, these actions should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative, which in turn should promote a stronger economic recovery and help to ensure that inflation, over time, is at the rate most consistent with the Committee's dual mandate.
The Committee will closely monitor incoming information on economic and financial developments in coming months ~~. The Committee~~ and will continue its purchases of Treasury and agency mortgage-backed securities, and employ its other policy tools as appropriate, until the outlook for the labor market has improved substantially in a context of price stability. In judging when to moderate the pace of asset purchases, the Committee will, at its coming meetings, assess whether incoming information continues to support the Committee's expectation of ongoing improvement in labor market conditions and inflation moving back toward its longer-run objective. Asset purchases are not on a preset course, and the Committee's decisions about their pace will remain contingent on the Committee's economic outlook as well as its assessment of the likely efficacy and costs of such purchases. ~~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. In determining the size, pace, and composition of its asset purchases, the Committee will continue to take appropriate account of the likely efficacy and costs of such purchases as well as the extent of progress toward its economic objectives.~~
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the asset purchase program ends and the economic recovery strengthens. In particular, the Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that 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. 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: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; ~~James Bullard; Elizabeth A. Duke;~~ Charles L. Evans; Jerome H. Powell; ~~Sarah Bloom Raskin;~~ Eric S. Rosengren; Jeremy C. Stein; Daniel K. Tarullo; and Janet L. Yellen. Voting against the action was Esther L. George, who was concerned 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.
| Removed | Added | Significance |
|---|---|---|
| "Modest pace" | "Moderate pace" | Slight upgrade in economic growth assessment. |
| "Transitory influences" | "Fluctuations due to changes in energy prices" | More specific attribution of inflation volatility; less reliance on the "transitory" label. |
| "Downside risks... diminished" | "Tightening of financial conditions... could slow the pace" | Explicit acknowledgment that market volatility (Taper Tantrum) is now a risk to growth. |
| "Prepared to increase or reduce" | "In judging when to moderate... not on a preset course" | Shift from general flexibility to a specific focus on moderating (tapering) the pace. |
| General QE justification | "Await more evidence... before adjusting the pace" | Signals a "wait-and-see" approach to tapering, providing a temporary reprieve to markets. |
Inflation:
The Committee has moved away from the vague "transitory influences" language toward a more technical explanation ("fluctuations due to changes in energy prices"). This suggests a desire to be more precise about why inflation is missing the target, avoiding the risk of appearing to ignore structural deflationary pressures.
Labor Markets & Growth:
There is a subtle but important upgrade in the growth narrative, moving from "modest" to "moderate." However, this optimism is tempered by a new, explicit concern: financial conditions. For the first time in these two statements, the Committee acknowledges that the "tightening of financial conditions" (rising yields) could actively hinder the recovery.
Forward Guidance:
The guidance has shifted from a general statement of flexibility to a specific framework for "moderating" asset purchases. By stating that purchases are "not on a preset course" and that they will "await more evidence," the Fed is attempting to manage market expectations. They are signaling that while a taper is coming, it is data-dependent and not imminent.
The Committee has shifted to a Cautiously Dovish tone.
While the upgrade from "modest" to "moderate" growth is hawkish, the overall weight of the statement is a response to market instability. The addition of language regarding the risks of "tightening financial conditions" and the explicit decision to "await more evidence" before adjusting the pace of QE serves as a soothing mechanism for the markets. The Fed is essentially acknowledging that the market's reaction to the prospect of tapering has become a risk factor in its own right, necessitating a more patient, data-dependent approach to the wind-down of stimulus.