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Fed says US economy making progress as central bank ponders pullback

The Federal Reserve on Wednesday held interest rates at near-zero, but hinted that the U.S. economic recovery is getting closer to a place where it may not need as much monetary support.

The Federal Open Market Committee on Wednesday kept its benchmark interest rate in the range of 0% to 0.25%, but provided an update on its December 2020 commitment to purchasing at least $120 billion a month in U.S. Treasuries and agency mortgage-backed securities until the recovery looked like it was making “substantial further progress.”

“Since then, the economy has made progress toward these goals, and the Committee will continue to assess progress in coming meetings,” the FOMC statement said. The decision was unanimous.

The policy-setting Federal Open Market Committee noted that inflation still appears to be the result of “transitory factors,” identical to its wording from its last policy decision six weeks ago.

A wide variety of inflationary readings since its June meeting six weeks ago have pointed to further price pressures. The Consumer Price Index, one major measure of inflation, showed prices increasing by 5.4% on a year-over-year basis in June, the fastest pace since August 2008.

Rising prices have spurred some chatter within the Fed over the possibility of more persistent inflation. But some of the high inflation readings over the past few months have been the result of price pressures from microchip shortages (i.e. in car and truck prices) and the ways in which inflation itself is measured (called “base effects”).

Fed Chairman Jerome Powell told Congress two weeks ago that the jury is still out on how persistent inflation will prove to be, arguing that the next six months will paint a clearer picture.

“It will depend on the path of the economy, it really will,” he told the House Financial Services Committee on July 14.

Standing repo facility

The Fed also made an announcement on its intention to set up “standing repo facilities” to improve the plumbing of the financial system.

In the depths of the pandemic, the market for U.S. Treasuries (largely perceived to be the most liquid market in the world) dried up amid a global dash for cash. In the absence of other counterparties, the Fed itself offered liquidity to certain primary dealers on an ad-hoc basis. But nonbanks unable to access the Fed were locked out.

The Fed said its standing repo facility would help improve market making in future episodes of stress by offering two facilities, one to serve counterparties domestically and another to serve those abroad.

The domestic facility will have a maximum operation size of $500 billion (with minimum bid rates at 25 basis points) and the foreign and international monetary authorities (or FIMA) facility will be set at 25 basis points with a per counterparty limit of $60 billion.

“These facilities will serve as backstops in money markets to support the effective implementation of monetary policy and smooth market functioning,” the Fed said in a statement.

A report from a team of former U.S. Treasury secretaries and Fed officials on Wednesday morning recommended that the Fed set up a standing repo facility to patch a weakness in the “globally crucial market” for U.S. government debt.

Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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