Wednesday, September 17, 2014

Fed trims QE, still sees low rates for considerable time

    The U.S. Federal Reserve will reduce its purchases of Treasury bonds and mortgage backed securities by another $10 billion to a total of $15 billion next month and expects to conclude its asset purchase program at its next meeting.
    However, the Fed repeated its guidance that it still expects to maintain its current federal funds rate of zero to 0.25 percent for "a considerable time after the asset purchase program ends," a statement that will surprise financial markets and economists that were expecting the Fed to alter its language.
    Since December 2012, the Fed has used the phrase of maintaining its current rate for "considerable time" after its quantitative easing program ends, and speculation in financial markets reached fever pitch in recent weeks over how the Fed would alter its guidance.
    But the Fed said the economy had been expanding "at a moderate pace" since July and repeated that there remains "significant underutilization of labour resources" despite an improvement in labor market conditions - a clear signal to markets that it does not seen any real price pressure from wages.
    "Inflation has been running below the Committee's longer-run objective," the Fed's policy making body, the Federal Open Market Committee (FOMC), said in its statement after a two-day meeting.
    "The Committee sees the risks to the outlook for economic activity and the labor market as nearly balanced and judges that the likelihood of inflation running persistently below 2 percent has diminished somewhat since early last year," the Fed said.

    Although the Fed plans to conclude its asset purchase program at its next meeting and purchase the last Treasury bonds and agency mortgage-backed securities in November, it added that this was "not on a preset course" and its decision would hinge on the outlook for the labor market and inflation.
    In addition to its FOMC policy statement, the Fed also issued a statement about its "policy normalization principles and plans," providing further details over how it would start to tighten policy at a time that its balance sheet has mushroomed and banks have ample of reserve balances at the Fed.
    The Fed said it would raise its target range for the federal funds rate - at the current zero to 0.25 percent since December 2008 - by adjusting the rate it pays banks on their excess reserves and also use overnight reverse repurchase agreements as other tools to control the fed funds rate.
    "The Committee will use and overnight reverse repurchase agreement facility only to the extent necessary and will phase it out when it is no longer needed to help control the federal funds rate," the  FOMC said.
    In addition, the Fed will gradually and in a "predictable manner" start to reduce its vast securities holdings, initially by no longer reinvesting repayments from maturing bonds after it had raised the federal funds rate, with the timing depending on the economic outlook.
    At the moment, the Fed is not expecting to start selling the housing related debt securities that it has purchased in recent years to keep mortgage rates low, though "limited sales might be warranted in the longer run to reduce or eliminate residual holdings," it added.
    "The Committee intends that the Federal Reserve will, in the longer run, hold no more securities than necessary to implement monetary policy efficiently and effectively," the Fed said, adding that in the future it will primarily hold Treasuries to minimize the impact it has on credit in the market.
    In an update of its economic forecast, the Fed trimmed its growth forecast for 2014 to 2.0 to 2.2 percent from its June forecast of 2.1 to 2.3 percent, while the 2015 forecast was reduced to 2.6-3.0 percent from 3.0-3.2 percent. For 2016 the forecast was raised to 2.6-2.9 percent from 2.5-3.0 percent.
    The inflation forecast was largely unchanged from June, with the forecast for personal consumption expenditure inflation at 1.5-1.6 percent this year, as in June, the 2015 forecast at 1.6-1.9 percent, down from 1.6-2.0 percent, and the 2016 forecast cut to 1.8-2.0 percent from 1.7-2.0 percent.
    Supporting market expectations for the Fed to start raising its fed funds rate in 2015, the number of FOMC participants that expect the first rate rise in 2014 was unchanged at one, while the number of participants that expect the rate to rise in 2015 rose to 14 from 12 in June. The number of participants that saw a rise in 2016 fell to two from three in June.


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