Fed Watch: Expect a tapering of tapering talk
When the dust settles after next week’s much-anticipated meeting of Federal Reserve policymakers and press conference afterward, we expect the outcome to be fairly clear: There will be no pullback of easing anytime soon—or at least not as soon as the markets were thinking after Fed Chairman Ben Bernanke's May 22 testimony to Congress’ Joint Economic Committee, during which he laid out the rationale for unprecedented easing. In response to a follow-up question about how long the Fed may continue with the $85 billion of monthly purchases of longer-term Treasury and agency mortgage-backed securities, aka quantitative easing, Bernanke said policymakers could consider reducing the purchases “within the next few meetings’’ if they see signs of sustained improvement in the labor market.
That’s a mighty big “if,” but the markets didn’t seem to care as Treasury yields spiked and stock prices slid. This is not what Bernanke or other Fed policymakers intended, which is why they should act to clear up any confusion following their two-day meeting that ends next Wednesday. Policymakers are likely to drive home the point that whatever they do will be strictly data-dependent and indicative of an economy capable of generating enough jobs to lower the unemployment rate to 6.5% while keeping inflation in the 2% to 2.5% range. On that score, May’s jobs report suggested that getting to 6.5% may prove a more stubborn task than seemed the case just a few months ago (the rate actually ticked up a notch to 7.6%), particularly if the quality of jobs being created is taken into account (lower-paying temporary, hospitality and retail jobs were the biggest gainers in May’s report, which showed nonfarm payrolls expanding a below-trend 175,000). Bernanke has made clear it’s not just the 6.5% target with which he’s concerned; he also wants the sort of jobs that can sustain growth. Moreover, virtually every gauge of inflation continues to run well below the Fed’s target. In fact, its preferred gauge, the core PCE Index, has been trending down and is running at 1.05%, the lowest it’s been in over 50 years.
From the Fed’s perspective, subpar employment growth, subpar economic growth and near disinflation are likely to add up to “Why change anything now?’’ There also is a probable recognition that some damage control may be necessary. The last thing Bernanke and his team want to see is long-term yields continue to rise unnecessarily to levels that threaten a still fragile economy, or investors shun riskier assets because of the uncertainty. Next week will offer Bernanke et al a chance to clear up this little mess before it potentially turns into a much bigger one.