Letter From Fed Camp
Raymond James
By Scott Brown
August 27, 2012
Hello Muddah, Hello Faddah,
We are here at Jackson Hole-ah.
As I write you this fine letter,
We’re debating if the economy’s getting better.
In the first quarter, growth was weaker,
And in the second, even bleaker.
July figures were more stable,
But is it both “substantial and sustainable?”
Some say our quiver has no arrow.
Policy options have grown narrow.
But what we can do, when growth is wheezing,
Is another round of quantitative easing.
There may be some risks, from our perspective,
Asset purchases may be less effective.
We’ll discuss the merits of QE3,
‘Round the campfire, in our short pants, roasting weenies
Help us, please, Dear Congress,
Now is not a time to raise taxes.
And on spending, try not to be so stiff,
We don’t want to fall right off the fiscal cliff.
Help us, please, Frau Merkel,
Down the drain, we’ll circle,
Keep in mind this one true verity,
And that’s the danger of too much austerity.
Saw Vice Chair Yellen, she’s a clear dove,
Inflation’s low, its target above.
She asked should there be a change in our stance,
But I couldn’t give her any forward guidance.
Lots to do here, in Wyoming,
Hunting, fishing, and can-OH-ing.
Horseback riding, high in the saddle,
I spied Draghi up the creek without a paddle.
-with apologies to Allan Sherman
The minutes of the July 31/August 1 Federal Open Market Committee provided clear insight into the Fed’s policy debate. At that meeting “many” FOMC members felt that “additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery.” However, the FOMC had extended its maturity extension program (Operation Twist) at the previous policy meeting and “several” members noted the benefits of getting more information. Recent economic data have been mixed, but generally better. However, it’s unclear whether this would qualify as “a substantial and sustainable strengthening.”
Many financial market participants were quick to conclude that QE3 is on its way. However, the Fed discussed three policy op tions; each could be classified as “additional accommodation.”
The easiest action would be to lengthen the forward guidance. In March 2009, the Fed indicated that “economic conditions are likely to warrant exceptionally low levels for the federal funds rate for an extended period.” In September of last year, this was refined to “at least through mid-2013.” In January, that was lengthened to “at least through late 2014.” Long-term interest rates are a series of expectations of shortterm interest rates (plus a risk premium). Extending the forward guidance would help push long-term interest rates down. This forward guidance is a conditional commitment. The Fed could (and would) move to hike earlier if there was a perceived threat of higher inflation. The Fed would then lose credibility on future commitments, but one wouldn’t expect a need to make such a commitment for some time. At the FOMC meeting, it was noted that an extension to the forward guidance “might be particularly effective if done in conjunction with a statement indicating that a highly accommodative stance of monetary policy was likely to be maintained even as the recovery progressed.”
The effectiveness of an additional asset purchase program (QE3) was questioned by “some” meeting participants, but “many” felt it would help push longer-term interest rates lower and “contribute to easier financial conditions more broadly.” “Several” worried that it might interfere with the Fed’s exit plans (when that time comes). “Many” felt it should be more flexible (most likely, that means stating a rate of purchases per mo nth rather that an overall amount).
Raising the interest rate paid on excess bank reserves was rul ed out due to worries about adverse effects on money markets.
As for whether we’ll get a clear signal of policy intentions:
“This one time, at Fed camp, Bernanke signaled QE2. And this other time, at Fed camp, Bernanke didn’t exactly signal Operation Twist. So, you never know. And this other time, at Fed camp, Bernanke told a joke and it was soooooo funny.”
(c) Raymond James
