Eco Analysis - FOMC stays the course (A. Markowska)

Eco Analysis - FOMC stays the course (A. Markowska)

Summary: The FOMC statement was very much inline with expectations. Asset purchases will continue at $85bn per month until the outlook for the labor market improves substantially, or until the perceived costs start to outweigh the benefits. The FOMC did not offer any new color on when that may be (and none was expected). The Fed's characterization of Q4 GDP numbers was a temporary pause driven by transitory factors. The statement notes some improvement in private sector demand, and sees the current policy stance as consistent with the recovery proceeding at a moderate pace. After the annual rotation of voting members, there was only one dissent vs. the possibility of two, perhaps suggesting a slightly less hawkish bias than expected. We will look to FOMC minutes on February 20th for more color on the timeframe for asset purchases.

The one question nagging the markets these days is when the Fed's asset purchases are likely to end. The FOMC offered no new color on this front. The qualitative guidance on the balance sheet was unchanged, i.e. asset purchases will continue until the outlook for employment improves substantially, or until the perceived costs start to exceed the benefits (whichever comes first). Though the FOMC largely discounted the weak Q4 GDP figures and noted some advances in private sector demand, there was little indication that the committee's outlook for the economy has changed. The statement noted that “with appropriate policy accommodation, economic growth will proceed at a moderate pace.” This seems broadly consistent with the forecasts published in December.

The meeting undoubtedly featured a heated debate on asset purchases and their efficacy and costs. Unfortunately, we will have to wait for the minutes published on February 20 for more color on those discussions. For now, the only hint of that debate that we can glean from the statement is the one dissent by Kansas City President Esther George. There was some concern that after the annual rotation, the bias of the FOMC members (as opposed to the participants which include non-voters) would shift slightly in the hawkish direction. However, the second potential dissenter, James Bullard, voted with the consensus. The two remaining incoming voters, Chicago's Charles Evans and Boston's Eric Rosengren, are the two most outspoken doves on the FOMC. Hence, we believe that the average bias among the voters is no more hawkish than last year and in fact, the balance of power may have even shifted slightly toward the dovish camp.

Going forward, our view remains that asset purchases are likely to continue through year-end, despite our increasingly optimistic views on US growth. However, markets are likely to move long ahead of the Fed and the inflection point could occur long before the termination of QE. For a more detailed discussion of our outlook for the Fed and for bond yields, see our editorial in this morning's On Our Minds, The final days of the “new normal”.