In short: The downside of qualitative
What is good for the Federal Reserve is not always good for the market. Markets don’t like subtlety and certainly not uncertainty, but that is what the Fed now thinks is the best strategy for policy decisions in an economy that is recovering at such a slow pace.
By switching from quantitative to qualitative forward-rate guidance at the latest Federal Open Market Committee meeting, it was understandable that Fed policymakers would be concerned about how their message would be perceived by the markets. And rightly so, since its projection chart—the so-called dots chart—and Chair Janet Yellen’s press conference “around six months’’ comment afterward showed that some members were expecting higher rates earlier than previously thought. By pulling back from a concrete figure of 6.5% unemployment as a threshold for increasing rates to guidance that takes a broader look at the economy, the Fed has put the market in a position of prediction more than reaction.
The volatility of the last few weeks and past few days shows how market-watchers don’t handle this well. And that is even after a subsequent speech by Yellen and the minutes from its mid-March meeting, released this week, that were not just dovish, but generally in keeping with policymakers’ expressed view on rates since late last year. The content of the minutes was actually not particularly surprising, and the market reaction—or overreaction—reflects more a difficulty in understanding what the Fed was trying to say than anything else. With an increased emphasis on the importance of Fed communications going forward, we expect the market’s attempts to interpret these messages to be a continued source of volatility.