Summary
The Bernanke Fed's balance sheet has expanded by a lot to ensure enough credit to promote economic recovery after the financial crisis of "08-'09. By different means, it has taken the same policy attitude as the Greenspan Fed following the 2000 stock market crisis. It has been guarding fiercely against the worst possible economic outcome, and rightly so up until now. But it is still afraid to let down its guard now that the economy is better, a miscalculation reminiscent of Greenspan's day.
Analysis
Usually, there is little to be learned about the background of the most recent monetary policy decision from reading the minutes of the Federal Open Market Committee, the central policy-making body of the Federal Reserve System. The minutes arrive about three weeks after the decision has already been announced along with a very brief summary of the economic and financial background. The decision announced September 23, made it clear that policy is essentially to continue unchanged. The Fed will gradually phase out some bond-buying programs. One of these programs is particularly huge--a promise to purchase $1 1/4 trillion of mortgage-backed securities by the end of the first quarter of next year.
But the key part of the policy announcement is the sentence stating that the "Committee will maintain the target range of the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period." That sounds very much as if the Committee anticipates fully accommodating interest rate policy to its own purchases of bonds for some time even as its balance sheet may greatly expand and also, incidentally, easing the U.S. Treasury's ability to market a huge amount of new debt to finance the enormous Federal deficit.
The minutes of the meeting provide some interesting background that would appear to make that decision, which has in essence been in place since the beginning of the year, especially risky. It is not so much the continuation for a while of a basically a zero federal funds rate policy that is of concern. What is of more concern is the implicit promise to continue that rate for an extended period even as economic conditions are already in process of changing for the better here and, more generally, around the world.
The Fed's own staff, according to the minutes, now has an improved outlook for the future, as well they should. After a brief review of the somewhat more upbeat incoming data, "the staff projected that real GDP would increase in the second half of 2009 at a rate somewhat above the growth rate of potential output," and that "output growth would continue to strengthen" next year, followed by a "further increase in real GDP growth in 2011." Of course this is hardly a roaring recovery. Ordinarily, it would be much faster than potential in the early stages of a recovery period. But solid ground is beginning to appear.
However, Committee members as a whole (differences of opinion there seem to be) remain determined to guide policy so as to minimize the chance (though diminishing) of a very bad outcome. This is what the Greenspan Fed dubbed a "risk management" policy.
As expressed in the minutes for the September "09 meeting, today's Committee, citing such factors as substantial resource slack and still low inflation, "judged that the costs of growth turning out to be weaker than anticipated could be relatively high." (I presume that means weaker than staff expectations, or maybe individual member expectations.)
This author consults with leading institutions through GLG
Analyses are solely the work of the authors and have not been edited or endorsed by GLG.
