A Steady Hand into 2020

There were some small surprises here and there, but the outcome of today’s FOMC communications—the postmeeting statement, projections, and press conference—didn’t affect our views on monetary policy. The FOMC’s intent was to avoid saying anything that might be interpreted as suggesting less confidence in that message.

The Statement

The FOMC didn’t make any substantive change at all to the first paragraph of the statement, which addresses the incoming data. We thought the November jobs report warranted an upgrade in the characterization of the recent page of job gains, from “solid” back to “strong.” We didn’t hear anything specific about what FOMC participants think about the most recent jobs data from Powell, either. We expect the minutes will provide some insight. In any case, the lack of reference to the strength in jobs gains doesn’t affect our understanding of the Fed’s reaction function with respect to the labor market: With core inflation below its objective and wage gains not indicating overheating, FOMC participants won’t reconsider policy because of stronger-than- expected job growth alone.

The changes to the second paragraph were also largely in line with our expectations. In particular, the FOMC retained references to “global developments” and “muted inflation pressures” by moving them later in the paragraph. It was necessary to move them because those factors had previously been cited in the sentence announcing and explaining the decision to lower the funds rate. In this statement, the FOMC said that it saw maintaining the current target range for the funds rate as “appropriate to support sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective.” They also made the surprising decision to remove the qualifier that “uncertainties about this outlook remain.” While we thought they would retain that part of the language as well, we don’t read too much into its removal. The Committee believes the rate cuts are likely to be effective in countering any effects of heightened uncertainty on the economy and that the uncertainties have also diminished. It reinforces the story that, regardless of whether the Committee thought of the cuts purely as insurance, they now believe those cuts have helped to support the expansion, and hence do not expect them to be taken back.

There were no dissents at this meeting.

The Macro Projections

FOMC participants’ macro projections were nearly identical to the guess we put in our Briefing, the one difference being that the median projection for the unemployment rate in 2019:Q4 was 3.6%  rather than 3.5%. While core inflation in 2019 was marked down to  1.6%  from  1.8%  because of weak recent data, FOMC participants continue to see inflation just shy of 2% in 2020 and at 2% in 2021 and 2022. The median projections of real GDP growth weren’t revised at all. Participants see growth at 2% and edging down only slightly in 2021 and 2022. The unemployment rate projections, as in September, show a one-tenth increase in 2021 and again in 2022, but from a lower trough in 2020:Q4, 3.5% rather than 3.7%. The median estimate of the longer-run unemployment rate declined a tenth, to 4.1%, as expected. As with previous downward revisions to these estimates, that is a response to downward surprises in the unemployment rate and core inflation. FOMC participants are still showing a soft landing with no sign of upward pressure on inflation.

The Dots

The 2019 dots were uniform at no more hikes or cuts for this year. The 2020 dots also had a median for no action, although several participants projected no more than one hike. For 2021 and 2022, the trajectory of the median was one hike each year, which is also a gradual return to the longer-run neutral. The median longer-run dot remained at 2.5%, contrary to our expectations of a decline in the median. The distribution of the longer-run dots was also little changed.

The issue with the rate projections is why there is such widespread agreement on rate increases in 2021 and 2022, despite no overshooting of the 2% inflation objective and coming at a time the unemployment rate is rising. Powell was asked about this at the press conference. The answer, undoubtedly, is that the outlook suggests that monetary accommodation will no longer be appropriate,  in which case the funds rate should over time move back to its neutral level.

Press Conference

Some of Powell’s most interesting remarks in his press conference were on the balance sheet, and we’ll cover those in the following section. As for his comments on the macro and rates policy side, the message was unchanged: “As I mentioned, at the last press conference actually, we think our policy rate is appropriate and will remain appropriate as long as incoming data are broadly in keeping with our outlook.” In his prepared remarks as well as in his responses to questions, Powell reiterated the guidance that it would take a “material” reassessment of the outlook for the Committee to reconsider its policy setting. We didn’t get much additional insight into what would constitute a “material” change: “In terms of what is material at the end of the day, I would say whether or not a change in the outlook merits a policy response will be a collective judgment of the FOMC. There isn’t any single factor that will determine our decisions.”

If there was “news,” it was Powell’s surprisingly frank assessment that inflation expectations  are uncomfortably low: “Ultimately, it  will  take time…to move inflation expectations  up from where they are, which appears to be a bit below 2 percent.” While his language characterizing inflation expectations was different, he didn’t mean to suggest that there was any recent change in inflation expectations. So it was surprising, but it shouldn’t matter for policy.

Powell reinforced the message that FOMC participants welcome a strong labor market and would only be concerned by signs of excessive overheating. He said, “Even though we are at 3.5% unemployment, there is actually more slack out there in a sense.” He later elaborated that, by remaining slack, he was referring to the rise in participation as a strong labor market has drawn more people into the labor force.  When asked what would indicate that the labor market was heating up, not just strong, he cited wage growth: “The labor market is strong. I don’t know that it’s tight because you are not seeing wage increases, ultimately, if it’s tight those should be reflected in higher wage increases. It does come down to that.” As for what would lead him to consider raising rates, he was forthright about  his own views:  “In order to move rates  up,  I  would want to see…[a] significant move up in inflation that is also persistent before raising rates to address inflation concerns.”

Powell  seemed to signal that  there is unlikely  to be  any significant  revision   to the Committee’s  “Statement on Longer-Run Goals and Monetary Policy Strategy” in January, well ahead of the expected end of the Review:

“We are just getting to the stage where we are looking at conclusions, what do we take away from  all  this. Those things, many of those things would wind up as changes, if you will, modifications to the statement of longer-run goals and monetary policy strategy. That process will take until the middle of the year, but we want  to approach it  thoroughly  and carefully.  That  is in  effect  our framework document.” Other than  that, he didn’t provide much information on the Review. He did say, “At this meeting we talked about the way monetary policy affects different groups in the economy. So we talked about the fed listens events and some very interesting research.”

Balance Sheet Policy

The FOMC made no changes to the guidance, first put out October 11, that purchases of Treasury bills (for reserve-management purposes) would continue “at least into” Q2 and that term and overnight  would be offered “at least through January.”

However, we see a good chance that repo operations will  be  offered well  past  January.  Powell  said  “the sense of it” is that as reserves expand as a result of cumulative T-bill purchases, “there will come a time” when they reduce term and overnight repo offerings. But he cautioned that the timing is unknown. “There will come a time” sounds like it would be after January.

As for the composition of reserve-management purchases, Powell was asked directly about recent discussion (outside the Fed) about the expansion of such purchases to include shorter-dated coupon Treasury  securities. He said this was a possibility but signaled that there were no plans to do so. He responded: “We are not at this place, but if it becomes appropriate for us to purchase other short-term coupon securities, we would be prepared to do that, if the need arises. But we are not in that place. It very much looks like the bill purchases are going well just according to expectations.” Their first line of defense (and  the  only  one  necessary  in current circumstances) is to adjust the existing repo operations.

The pace of T-bill purchases or detailed plans for repo offerings were not addressed by the statement or by Powell. Tomorrow (Thursday), the New York Fed will announce a new schedule of T-bill purchases and repo operations for the coming month. We don’t expect the pace for the next month to deviate from the previous month’s pace of $60 billion per month. But we expect repo offerings to be ramped up in preparation for potential year-end pressures.

When asked about the possibility of establishing a standing repo facility, Powell noted that the focus right now was on year-end. But he did seem to hint that a standing repo facility could be implemented, though not anytime soon. We’ve expected that to ultimately happen, but the minutes haven’t indicated any clear consensus on that,  and there’s certainly been no official announcement.  He  said:  “the  standing repo facility is something that will take time to evaluate and create the parameters of and put into place.” He also said there have been no plans to coordinate with Treasury to reduce the impact of fluctuations in the Treasury’s General Account on reserves. Rather, Powell outlined measures to resolve structural issues that might have arisen with regulatory practices. Powell reminded the audience that the purpose of measures to keep the funds rate trading well within the target range “is not to eliminate all volatility particularly in the repo market.” In his view, repo markets have been functioning well, and “pressures appear manageable.” He added that “temporary upward pressures on short-term money market rates are not unusual around year-end.”

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