Fed Says ‘a Number’ on FOMC Saw Need for Additional QE
A number of Federal Reserve officials said the central bank may need to expand its monthly purchases of bonds next year after the expiration of Operation Twist, according to minutes of their last meeting.
“A number of participants indicated that additional asset purchases would likely be appropriate next year after the conclusion of the maturity-extension program,” according to the record of the Federal Open Market Committee’s Oct. 23-24 gathering released today in Washington.
Under Operation Twist the Fed is swapping about $45 billion of short-term Treasuries on its balance sheet for longer-term debt. The Fed in addition is buying $40 billion a month in mortgage-backed securities in a third round of so-called quantitative easing aimed at fueling economic growth and reducing unemployment.
Operation Twist is set to expire at the end of December, as the central bank will have nearly exhausted its holdings of short-term debt. The minutes suggest the FOMC may begin outright purchases of around $45 billion a month of Treasuries to maintain the current pace, said Millan Mulraine, a senior U.S. strategist for TD Securities in New York.
Such a move along with QE3 would constitute “a full- fledged quantitative easing of MBS and Treasuries of about $85 billion a month,” Mulraine said. That level of buying may continue for at least six months, he said.
The minutes also show a detailed discussion about whether the central bank should link its policy of holding the main interest rate at zero to numerical measurements of unemployment and inflation, an approach that participants “generally favored” over the current approach of specifying a calendar date through which rates will remain low.
Vice Chairman Janet Yellen and three other central bank officials have publicly endorsed linking the zero-rate policy to economic thresholds. In September the central bank pledged to hold the benchmark interest rate at a record low at least through mid-2015. Tying policy instead to a threshold would provide more clarity on the policy outlook, Yellen said yesterday.
The idea for quantitative targets first came from Chicago Fed President Charles Evans, who has suggested holding rates near zero until unemployment reached 7 percent so long as inflation did not breach 3 percent.
In addition to disagreeing on how to specify their thresholds, the committee said it “would need to resolve a number of practical issues before deciding whether to adopt quantitative thresholds to communicate its thinking about the timing of the initial increase in the federal funds rate,” according to the minutes.
The Standard & Poor’s 500 Index (SPX) extended declines after release of the minutes, falling 1.1 percent to 1,359.76 as of 3:12 p.m. in New York. The yield on the benchmark 10-year Treasury was little changed at 1.59 percent.
The Fed should give “guidance on the economic conditions that would need to prevail before liftoff of the federal funds rate might be judged appropriate,” Yellen said yesterday in a speech in at the University of California at Berkeley. Yellen, who since June 2011 has led an FOMC subcommittee on communications, said she is “strongly supportive” of such a change.
Fed Chairman Ben S. Bernanke and his policy making colleagues last month affirmed their September decision to buy $40 billion of mortgage-backed securities each month without specifying the total size or duration of the purchases. The FOMC also at the last meeting reiterated that it plans to hold the benchmark interest rate near zero through mid-2015.
By ending Operation Twist and beginning outright purchases of Treasuries, the new bond buying would further expand the Fed’s balance sheet, which exceeded $2.83 trillion as of Nov. 7.
FOMC members last month voted 11-1 for the action with only Richmond Fed President Jeffrey Lacker dissenting. Lacker, who has voted against every FOMC decision this year, said in an Oct. 26 statement that he opposed additional bond buying because the effort is ineffective and may speed up inflation.
All of the Fed’s 12 regional presidents and seven Washington-based governors are participants in meetings of the FOMC. The minutes do not identify participants by name. The FOMC’s last scheduled meeting of this year is set for Dec. 11- 12, when it will release its updated summary of economic projections and Bernanke plans to hold a press conference.
The FOMC includes 12 participants who hold voting power. The governors, the New York Fed president and a rotating group of four of the regional presidents serve as voting members of the committee. This year, the Cleveland, Richmond, Atlanta and San Francisco Fed presidents hold a vote.
In the first round of quantitative easing starting in 2008, the Fed bought $1.25 trillion of mortgage-backed securities, $175 billion of federal agency debt and $300 billion of Treasuries. In the second round, announced in November 2010, the Fed bought $600 billion of Treasuries.
San Francisco Fed President John Williams, who was among the first Fed officials to back open-ended bond buying, told reporters on Nov. 6 that the central bank may need to buy more than $600 billion in bonds by extending QE3 well into next year.
“It’s still a weak-growth economy,” said Jeffrey Rosenberg, chief investment strategist for fixed income at New York-based BlackRock Inc. (BLK), the world’s biggest asset manager with $3.67 trillion, before today’s release. “The economy isn’t growing fast enough to increase the pace of job creation.”
The S&P 500 (SPXL1) rallied to 1,465.77, the highest close since December 2007, on Sept. 14, a day after the Fed announced QE3. The benchmark U.S. stock gauge rallied 9.3 percent this year before today. Next year it will probably exceed its record of 1,565.15 in October 2007, according to six of seven equity strategists’ estimates compiled by Bloomberg News.
The labor market and housing have shown sign of improvement.
U.S. companies hired more workers than forecast in October, adding 171,000 workers to payrolls after a 148,000 gain in September that was more than first estimated, the Labor Department said Nov. 2. The unemployment rate climbed last month to 7.9 percent from 7.8 percent in September as more people entered the labor force in search of work.
The U.S. housing market has rebounded as mortgage rates driven to record lows by the Fed’s asset buying spur demand. In August the S&P/Case-Shiller index of property values in 20 cities rose 2 percent from August 2011, the biggest year-to-year gain since July 2010. Purchases of new homes rose in September to a two-year high, according to the Commerce Department.
Even so, economists see growth slowing to 2 percent next year from 2.1 percent this year, according to the median of 89 estimates in a Bloomberg survey. The pace is slower than the latest estimate by FOMC participants, who said in September that growth next year will be 2.5 percent to 3 percent in 2013, according to the central tendency forecasts. Those predictions exclude the three highest and three lowest of 19 projections.
“We still have significant headwinds,” Sam Bullard, a senior economist at Wells Fargo & Co. in Charlotte, North Carolina, said before today’s release. “We’re looking at sluggish growth for the next two or three quarters, an employment market that remains challenged and businesses that see weak demand.”
DuPont Co. said Oct. 23 it will cut 1,500 jobs to save $450 million after posting a smaller-than-estimated third-quarter profit because of the deteriorating economic outlook. Wilmington, Delaware-based DuPont, the most valuable U.S. chemical maker, has tumbled 14 percent since then.
Chairman and Chief Executive Officer Ellen Kullman cited “uncertainty in the global economic outlook” and “softer demand in certain markets” in conference call with analysts. “It’s going to be a tough end of the year, but we see stabilization occurring in the first half of next year.”
Fed officials said the looming U.S. fiscal contraction known as the fiscal cliff poses another risk to the economic expansion, according to the minutes. Participants said businesses have reported “delaying or cutting back on hiring and capital spending” because of the uncertainty.
President Barack Obama’s re-election this month set up a showdown over the federal budget with the Republican-controlled House of Representatives. If Congress doesn’t act by the end of the year, $607 billion in automatic spending cuts and tax increases take effect starting in January.
Many participants said the uncertainty about the unresolved U.S. fiscal situation is “likely to restrain the pace of economic growth in coming months,” the minutes said.
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