A Week for Transitions

We look forward to the release of the minutes of the December FOMC meeting this Wednesday, especially since the new guidance for asset purchases that the FOMC unveiled at the December meeting was so limited. Of course, the FOMC minutes will be overshadowed this week by political developments.

Voting for the runoff elections for two Georgia Senate seats will conclude tomorrow, Jan. 5. If Democrats were to win both seats, there would be 48 Democratic senators plus two independent senators who tend to vote with Democrats (Senators Sanders and King). That would give Democrats control on many issues, as Democratic Vice President Harris would have the deciding vote in cases in which senators’ votes were split 50-50. If Republicans win both seats, they will retain a Senate majority.

Then, on Wednesday, members of Congress will convene for a joint session, presided over by Vice President Pence, to formally count the votes of the Electoral College. Large demonstrations are planned in Washington, D.C., the same day. There is a legal avenue for Congress to affect the counting of votes, but it won’t work in the current circumstances. An objection to a state’s votes is considered if both a member of the House and a member of the Senate submit written objections. Republicans in both the House and Senate have indicated that they intend to do this. If that happens, then the House and Senate deliberate separately for a maximum of two hours before voting. For an objection to succeed, both chambers must agree to it, and a majority in each chamber is required to uphold the objection. With Democrats having a majority in the House, an objection can’t succeed. Moreover, four Republican senators signed a statement saying, “The voters have spoken, and Congress must now fulfill its responsibility to certify the election results.”

As it is now 2021, the annual rotation of FOMC membership has taken place. To review, members of the Board of Governors as well as the president of the New York Fed are always members of the FOMC, and thus have the ability to cast votes on monetary policy matters. In addition, four presidents of regional Fed Banks serve on the FOMC each year, and it is this membership that rotates. Out are Mester (Cleveland), Kashkari (Minneapolis), Kaplan (Dallas), and Harker (Philadelphia). In are Daly (San Francisco), Evans (Chicago), Bostic (Atlanta), and Barkin (Richmond). That’s a dovish shift in terms of FOMC composition, to be sure, but one that’s still very unlikely to affect policy decisions this year.

Also voting this year will be Governor Christopher Waller, who was sworn in following the FOMC’s last meeting of 2020. Finally, we’d also note that Judy Shelton’s nomination to the Board is technically still alive, as hers was among 30 submitted to the Senate yesterday for consideration by the new Congress.

Policymaker Remarks

A new year of Fed communications has begun. President Evans (1/4) again made the case that the FOMC must aim for a sufficiently large overshoot of the inflation objective for it to realize the new framework’s full potential: “If we try to fine-tune a very modest inflation overshoot of only a tenth or two, we run a very large risk of failing to achieve our 2% averaging goal within any reasonable amount of time.” He argued that “To me, getting inflation moving up with momentum and delivering rates around 2.5% is important for achieving…our inflation objective in as timely a manner as possible.” He addressed the potential for inflation to reach even higher levels, saying, “I’m not worried about inflation going up substantially beyond 2.5%. I don’t even fear 3%.” While the prospect of such a degree of overshooting would likely not be considered ideal, at least to Evans it would not override all other considerations, notably labor market outcomes: “If we saw inflation headed for 3% we’d definitely be talking about how we’d adjust our policy response, but also making sure we’re focused on achieving maximum employment and getting inflation in the right place.

While Evans favors a more substantial inflation overshoot than at least some of his colleagues, he reiterated his support for the FOMC’s current policy approach, calling it “well-positioned.” His emphasis in describing an approach conducive to his preferred inflation outcomes was on the length of time (“quite a while”) that the Fed’s accommodative policies—near-zero rates as well as asset purchases—should be maintained.

Evans called the current configuration of asset purchases “reasonable” but indicated a willingness to provide more accommodation, if necessary, by adjusting either the pace or duration. He added that, “if we saw that things were going better we could change the duration as well.” He again pushed back on the notion that higher rates would necessarily strengthen the case for a policy change such as extending the WAM of the Fed’s Treasury purchases. He said, “To some extent I look forward to real interest rates going up. That would be a sign that the economy is stronger.” He noted that, despite the ten-year Treasury yield having firmed up somewhat, “Before all of this it was much, much, much higher than that so it’s got a ways to go.”

Bostic’s (1/4) remarks on the outlook this afternoon, like Evans’, were optimistic. However, whereas Evans emphasized that policy must remain accommodative even as the recovery proceeds, Bostic said he was “hopeful that in fairly short order we can start to recalibrate” the Fed’s asset purchase program—meaning tapering. He was “hopeful that moving on into this year that the signals for weakness start to dissipate and the conversation turns consistently and robustly to sort of steady and broad-based growth.” Referencing the FOMC’s new guidance on asset purchases, he said that, should that happen, and “If we determine things have strengthened appreciably, that we have made significant progress, then we will think about the next appropriate action.”

He also reportedly added that positive economic outcomes might allow the Fed to bring its asset holdings back “more in line” with its pre-pandemic level. We don’t know what he was referring to there, but the balance sheet won’t be normalized any time soon, since the Fed, even after it stops adding to its holdings, is likely to maintain the size of its balance sheet for some time by reinvesting proceeds from maturing securities.

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