Fed May Keep Easing at `Full Throttle' Until Decline in Unemployment Rate
Federal Reserve officials signaled they’ll probably push ahead with unprecedented stimulus until the recovery strengthens and many of the 15 million unemployed Americans find work.
The jobless rate hasn’t fallen below 9.4 percent since May 2009 and will probably average that figure this year, according to a Bloomberg News survey of economists. Unemployment probably declined to 9.7 percent last month from 9.8 percent in November, according to the average estimate of a Bloomberg poll prior to a Labor Department employment report on Jan. 7.
While growth has picked up since the Fed announced plans on Nov. 3 to buy $600 billion of bonds, policy makers remain focused on their failure to achieve their goals of full employment and an inflation rate of about 2 percent, according to the minutes of their Dec. 14 meeting released yesterday. The recovery’s pace is likely to “remain modest, with unemployment and inflation deviating from the committee’s objectives for some time,” the minutes said.
“Right now it looks like the unemployment rate is the whole ball of wax,” said Ward McCarthy, chief financial economist at Jefferies & Co. in New York. “The majority just wants to keep going full throttle, and keep policy as accommodative as possible.”
The Fed’s decision to embark on a second round of bond purchases in November, known as quantitative easing and dubbed QE2, sparked some of the bitterest political criticism in three decades. Republican lawmakers and officials in China, Germany and Brazil have said it may weaken the dollar and ignite inflation.
As stocks rise and the economy shows signs of improving, Chairman Ben S. Bernanke and his colleagues are trying to explain their record easing to investors expecting a pullback. The Fed chief defended the central bank’s actions in an interview last month on CBS Corp.’s “60 Minutes” and Janet Yellen, the central bank’s vice-chair, is leading a subcommittee to review communication strategy.
U.S. central bankers, while affirming their commitment to the asset-purchase program, acknowledged “the communications challenges faced in conducting effective policy, including the need to clearly convey the committee’s views while appropriately airing individual perspectives,” the minutes said.
Policy makers saw growth quicken since their last meeting, and “generally agreed that, even with the positive news received over the intermeeting period, the most likely outcome was a gradual pickup in growth with slow progress toward maximum employment.” In addition, the “high level of unemployment was limiting gains in wages and thereby contributing to the low level of inflation,” the minutes said.
Since the Fed announced its plans to buy $600 billion of bonds through June, financing terms for companies have eased, U.S. stocks have climbed, inflation expectations have increased and the dollar has strengthened, gaining 6.2 percent versus the euro.
The Standard & Poor’s 500 Index of stocks rose 6 percent during the period to close yesterday at 1,270.2 and the extra yield, or spread, investors demand to own high-yield, high-risk securities rather than government debt fell to 5.27 percentage points from 5.92 percentage points on Nov. 3, Bank of America Merrill Lynch index data show.
The improvements in the economy reinforce the Fed’s strategy and make it unlikely they’ll stop their asset-program before completing their planned $600 billion of purchases, according to Chris Low, chief economist at FTN Financial in New York.
“With the economy growing faster, the chances are they think it’s from QE and the last thing they’ll want to do is take that fuel away now,” Low said.
The Fed’s Open Market Committee “emphasized that the pace and overall size of the purchase program would be contingent on economic and financial developments,” according to the minutes. “However, some indicated that they had a fairly high threshold for making changes to the program,” the minutes added.
“They’re specifically saying they have a very high threshold for shrinking it,” Low said. “I don’t think we’ll know until the second quarter” whether they’ll want to increase the asset purchases.
Policy makers saw downside risks to growth including further weakness in the housing industry, the “ongoing deterioration” in the finances of U.S. states and localities, and the potential worsening of the sovereign debt crisis in Europe, the minutes showed.
The Fed’s quantitative easing program has led inflation expectations to increase. Investors expect prices to rise by 2.3 annually over the next 10 years, as measured by the spread between nominal and inflation-indexed Treasury bonds, compared to expectations of 1.6 percent when Bernanke signaled his willingness for a second round of asset purchases in an Aug. 27 speech in Jackson Hole, Wyoming.
Most Fed officials said they expected “underlying measures of inflation would bottom out around current levels and then move gradually higher as the recovery progresses.” The minutes also noted that “several participants saw the risk of deflation as having receded somewhat over recent months.”
The rate of inflation slowed throughout 2010. The personal consumption expenditures index, excluding food and energy, increased 0.8 percent in November from a year earlier, down from 1.8 percent in December 2009. Including all items, inflation was 1 percent, down from 2.4 percent at the end of 2009.
“What the Fed was doing with QE2 was worrying about the potential for downside risk, in particular the potential for deflation,” former Fed Governor Randall Kroszner, a professor at the University of Chicago, said in a Bloomberg TV interview. “They bought some insurance against that by buying more assets. One of the things that is going to do is to start to boost up inflation expectations a little bit. That’s what they hope.”
The announcement of the central bank’s quantitative easing program hasn’t led to a decline in interest rates on longer-term Treasuries. The yield on the 10-year Treasury note closed at 3.33 percent yesterday, an increase from 2.57 percent on Nov. 3.
Policy makers found that Treasury yields climbed because of “an apparent downward reassessment by investors of the likely ultimate size of the Federal Reserve’s asset-purchase program, economic data that were seen as suggesting an improved economic outlook, and the announcement of a package of fiscal measures that was expected to bolster economic growth and increase the deficit,” the minutes said.
The Fed staff, which prepares a forecast for each FOMC meeting, revised up its outlook for growth “in the near term” as it incorporated a projection for another round of fiscal stimulus. President Barack Obama last month signed into law an $858 billion bill extending for two years Bush-era tax cuts.
Fiscal support was likely to “boost the level of real GDP in 2011 and 2012,” according to the staff forecast. Offsetting the fiscal support were projections for lower house prices, higher interest rates and oil prices, and a higher foreign exchange value of the dollar.
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