One More Cut Can’t Hurt

The minutes of the October 2019 FOMC meeting didn’t provide much additional insight into rates policy— either the decision at that meeting or future decisions—beyond what we learned from Powell’s press conference and subsequent remarks from FOMC participants. The FOMC is pleased with the current stance of policy and there is a higher bar for future rate cuts. 

Today’s release also included minutes for the unscheduled FOMC meeting on October 4 that was held to discuss the Fed’s interventions in response to money market stresses. The discussion of balance sheet policies at that meeting and at the official FOMC meeting later in the month did provide some additional insight into policy prospects (covered in depth later in this note). In particular, we saw the repeated concern about the potential for stresses relating to spring 2020 tax payments as supporting our view that the Fed may well be inclined to continue asset purchases at the current pace well beyond the point needed merely to return reserves to their early-September-2019 level. 

These minutes also contained new information on the ongoing framework review, which we’ll comment on in a separate piece: Staff presentations and discussions at this meeting focused on various forms of forwarding guidance as well as alternative balance sheet and rates policies including LSAPs, rate caps, and negative rates. 

“Most” participants thought a funds rate cut was appropriate, with “a couple” of those indicating that it was  “a close call.” The factors policymakers cited in support of cutting the funds rate were pretty familiar and reasonable. 

▪ “Participants continued to point to global developments weighing on the economic outlook, the need  to provide insurance against potential downside risks to the economic outlook, and the importance of  returning inflation to the Committee’s symmetric 2 percent objective on a sustained basis.” 

▪ “Many participants judged that an additional modest easing at this meeting was appropriate in light  of persistent weakness in global growth and elevated uncertainty regarding trade developments.” ▪ “Several participants suggested that a modest easing of policy at this meeting would likely better  

align the target range for the federal funds rate with a variety of indicators used to assess the  appropriate policy stance, including estimates of the neutral interest rate and the slope of the yield  curve.” 

▪ “A couple of participants judged that there was more room for the labor market to improve.  Accordingly, they saw further accommodation as best supporting both of the Committee’s dual mandate objectives.” 

▪ “A few participants observed that the considerations favoring easing at this meeting were reinforced  by the proximity of the federal funds rate to the ELB.” 

▪ “Many participants also cited the level of inflation or inflation expectations as justifying a reduction  of 25 basis points in the federal funds rate at this meeting.” 

All well and good. But a glaring question was (not too surprisingly) left unanswered: Coming out of the  September meeting, FOMC participants hadn’t expected another rate cut to be appropriate, so what had  

changed their minds by late October? The data had been pretty good, and participant’s views on the outlook  for growth, the labor market, and inflation “had changed little since the September meeting.” Indeed, even in  discussing the reasons for cutting rates participants admitted that “incoming data had continued to suggest  that the economy had proven resilient in the face of continued headwinds from global developments and that previous adjustment to monetary policy would continue to help sustain economic growth.” On top of that,  the risk picture had improved: “There were some tentative signs that trade tensions were easing, the probability of a no-deal Brexit was judged to have lessened, and some other geopolitical tensions had diminished.” The lack of negative developments since the previous meeting left “some participants” favoring leaving rates unchanged at this meeting. There didn’t seem to be much difference in the views between those who favored cutting and those who favored staying put (with the exception of the “few” who were worried easing would present financial stability issues). 

The answer to what tilted the consensus toward easing was alluded to in the staff’s review of developments  in financial markets: “The probability that surveys respondents placed on this outcome was broadly similar to  the probability of a 25 basis point cut ahead of the July and September meetings.” Markets expected the  FOMC to cut rates another 25 basis points at this meeting but we’re expecting a relatively flat path thereafter.  Essentially, the FOMC had nothing to gain by failing to follow through on what they had tacitly signaled they would do. 

While their views on the September decision varied, participants seemed to be in full agreement on the broad contours of the outlook and, in particular, that further easing is unlikely to be appropriate in the near term:  “With regard to monetary policy beyond this meeting, most participants judged that the stance of policy, after a 25 basis point reduction at this meeting, would be well-calibrated to support the outlook of moderate growth, a strong labor market, and inflation near the Committee’s symmetric 2 percent objective and likely would remain so as long as incoming information about the economy did not result in a material reassessment of the economic outlook” (our emphasis). The minutes noted that “A couple of participants expressed the  view that the Committee should reinforce its postmeeting statement with additional communications  indicating that another reduction in the federal funds rate was unlikely in the near term unless incoming  information was consistent with a significant slowdown in the pace of economic activity.” It wasn’t entirely clear to us if these couple participants got the reinforcement they desired in the form of the changes ultimately made to the postmeeting statement or the message Powell delivered at his press conference. It seems that they were looking for an even stronger message, one that would indicate a higher bar (“significant slowdown”)  for how the incoming data would have to disappoint for the FOMC to consider another cut. 

Balance sheet policy, repo operations, and standing repo facility discussion 

Policy expectations: We continue to believe that the current monthly pace of T-bill purchases ($60 billion per month) will be maintained for a while. “Respondents to the Desk surveys” expected T-bill purchases to  continue “at the same pace for some time.” More than once, the SOMA Manager (Logan) referred to the April  2020 tax season or spring of 2020 as a sensitive time for reserve management given the projected decline in reserves. We pointed out this logic when Logan brought it up weeks ago. We also continue to believe that repo operations will continue at least at the current scale into January if not longer, to mitigate year-end pressures. Indeed, the Desk is likely to scale up repo operations further for the year-end period. Thereafter,  the degree of support could be reduced, depending on how money markets fare over year-end and how many reserves were added as a result of the ongoing T-bill purchases program.

October 4 unscheduled meeting and October 11 policy announcement: After the September FOMC meeting,  money market pressures persisted. The FOMC met via videoconference on October 4. The minutes noted that  policymakers believed that the stresses resulted because of financial institutions’ preferences and elevated  Treasury issuance. The focus of this unscheduled meeting was to reach an agreement on a “near-term plan”  and how to communicate that plan. 

“All” policymakers supported the general contours of the October 11 announcement: T-bill purchases into Q2  and term and overnight repos “at least through January.” 

There was some debate over how high the level to which reserves return should be. “Many,” thought that early September levels would suffice, while “some others” proposed an “even higher” level to build a buffer. 

On the issue of the pace of purchases, “many” supported a pace that was “relatively rapid”—presumably corresponding to the $60-billion initial monthly pace that was ultimately announced. “Others” supported a  pace that was “more moderate.” Either way, T-bill purchases over time would gradually reduce the need to maintain the same degree of repo operations. 

“Respondents to the Desk surveys” expected T-bill purchases to continue “at the same pace for some time.”  At the October 4 meeting, policymakers also had information from the Treasury that “Some primary dealers  expect the Federal Reserve to gradually reduce the size of purchases or shift the composition of purchases to  include short-dated nominal coupons in FY2020, while others expect the size of monthly T-bill purchases to  remain at $60 billion through Q2 CY2020.” 

Only “a few” noted that purchases could be extended to shorter-date coupons. 

Since policymakers wished to position these measures as “technical” rather than part of a change in the stance of monetary policy, “most” preferred not to wait until October 30 (the scheduled meeting) to make an announcement of these plans. 

As for longer-term issues, the situation seemed to have motivated “many” policymakers to resume discussion of a standing repo facility. “Almost all,” thought an SRF was an option.

October 29-30 FOMC meeting: 

By the time of the scheduled October FOMC meeting, the new reserve-management measures had been in place for a few weeks already. Policymakers were pleased that such measures had increased reserves to levels above those of early September. 

For the short term, the New York Fed already has intentions to “further adjust” repo operations around year-end as needed: likely an increase. 

Looking ahead, they reaffirmed the “ample reserves” regime. 

Staff discussed “possibly maintaining a role” for repo operations over the longer run, as a way of having insurance against the fund’s rate regularly trading outside the target range. 

Two approaches were presented: 

1. “Modestly sized, relatively frequent” repos: similar to current measures. 

2. Standing fixed-rate facility (SRF): an automatic stabilizer. 

The key tradeoff between the two proposals is (i) control over the fed funds rate (provided by SRF) and (ii)  stigmatization and moral hazard risk (a relatively smaller issue for regular, modestly sized repos). One disadvantage of the current system is that it is difficult for them to anticipate exactly when money market pressures intensify. 

For the standing facility, the level of the fixed rate would influence uptake; the lower the rate, the higher participation would be. 

FOMC participants compared the two approaches. “Many,” thought that an SRF for “frequent” repo operations would not be needed once reserves are once again ample. “Many,” thought an SRF would be a “useful backstop” to guard against outsized shocks. “Several” further noted that the mere establishment of an SRF  could lower the minimum level of reserves demanded by the system. 

However, they seem nowhere near establishing an SRF. They did not reach conclusions about design choices such as pricing, counterparties, and collateral. They reiterated concerns about moral hazard, stigma,  disintermediation, and “excessive volatility” of the Fed’s balance sheet. “A couple” maintained that a ramp-up of repo operations that is sufficiently responsive might be a better solution. 

Policymakers made no decisions on either an SRF or the longer-run role of repos. In their view, continued vigilance was recommended, and further study on the recent episode as well as fluctuations in “non-reserve liabilities” (for example, currency) was merited.

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