Robust is the new moderate: The January 2014 FOMC minutes and REITs (Part 5 of 8)
The Fed was clearly disappointed in the bond sell-off during the summer after it hinted at a withdrawal of QE (quantitative easing). The Fed believes the market views QE and the level of short-term interest rates as linked and it would like to separate the two. The Fed is worried that the market will interpret a taper of asset purchases indicating a stronger economy going forward (a reasonable assumption) and therefore begin to make moves in anticipation of higher short-term rates. It also believes the economy can be strong enough to remove QE but still be weak enough to warrant interest rates at close to zero.
At Janet Yellen’s testimony before the Senate Banking Committee, the new Fed Chair said she would endeavor to be even more transparent with the market, because she believes that monetary policy is most effective when the market knows exactly what to expect out of the Fed. This is clearly a mindset you have in weak, disinflationary economies. In an inflationary economy, the Fed needs to be as inscrutable as possible in order to rein in inflationary expectations.
This ties in with the whole “credibility” argument we saw in the September FOMC minutes. The economic data didn’t warrant any change in monetary policy—if anything, the data was weak enough that the Fed wanted to continue to purchase Treasuries and MBS (mortgage-backed securities). However, some argued for tapering simply because the Fed had led the market to believe it would taper, and it needed to reassure the market that it would follow through on its guidance. When you look at this through the prism of the Fed believing that its policy is most effective when the market understands its thought process, it makes sense.
The most important policy statement in the minutes was this:
- “In the absence of an appreciable change in the economic outlook, there should be a clear presumption in favor of continuing to reduce the pace of purchases by a total of $10 billion at each FOMC meeting. That said, a number of participants noted that if the economy deviated substantially from its expected path, the Committee should be prepared to respond with an appropriate adjustment to the trajectory of its purchases.”
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