The FOMC met this week and made the following announcements:
1. The Fed believes that, without further QE, economic growth will not be strong enough to generate sustained improvement in labor market conditions (i.e., unemployment below 7%).
2. The Fed will continue purchasing additional MBS at $40 billion per month, and will also purchase longer-term Treasuries at $45 billion per month, for a monthly increase in the Monetary Base of $85 billion (3%), or $1 trillion annually (36%).
3. If unemployment does not decline to 6.5%, the Fed will continue its purchases until such a decline is achieved. However, that does not mean that QE3 will necessarily end when unemployment goes below 6.5%.
4. To support continued growth, the Fed will maintain its zero-interest rate policy (ZIRP) for a “considerable time” after the QE program ends and the economic recovery strengthens. (A “considerable time” is understood to mean not before mid-2015.)
5. The ZIRP will continue at least as long as the unemployment rate remains above 6-1/2%, inflation is no more than 0.5% above the Committee’s 2.0% longer-run goal, and longer-term inflation expectations continue to be well anchored (e.g., the TIPS-Treasury spread remains low).
Access every new PS commentary, our entire On Point suite of subscriber-exclusive content – including Longer Reads, Insider Interviews, Big Picture/Big Question, and Say More – and the full PS archive.
Subscribe Now
How should we Kremlinologists interpret these announcements? The good news is that Bernanke has managed to hold together his near-consensus in favor of unconventional monetary policy: 1. The Fed will QE, and will pursue ZIRP at least until 2015. 2. The Fed has announced an explicit unemployment target of 6.5%, which is the first time that it has operationalized its full employment mandate. 3. The rate of the Fed’s pace of asset expansion will more than double and will, if pursued through the end of the year, represent a material increase (36%) in the Fed’s balance sheet and the monetary base. 4. The Fed will add purchases of Treasuries to the QE program, which settle much faster than MBS and will have an immediate impact on the monetary base. 4. The Fed is prepared to tolerate a higher-than-target rate of inflation in order to achieve its unemployment target.
The markets have reacted mildly to the announcement, with Treasury yields and gold prices rising to reflect slightly higher inflationary expectations.
However, this announcement should not be interpreted as a decisive victory of Bernanke and his doves over the FOMC hawks. That is because the Fed continues to tie its hands by (1) limiting the scale of its intervention to a modest level compared to prior QEs; and (2) limiting inflation and thus nominal growth. Were the Fed to go all the way and target a nominal GDP level (i.e., a nominal GDP of $X), it would not only tolerate but actually desire above-target inflation. As long as the Fed places a higher priority on its inflation target than on its employment target, it may never achieve the employment target, or at least not very quickly.
This helps to explain the market’s muted reaction. Yes, the monetary base will now start to grow for the first time since QE2 ended in mid-2011; that is bullish for nominal and real growth (especially if the US goes over the fiscal cliff next month). But nominal growth will be limited to the sum of real growth and a maximum of 2.5% inflation, whether or not maximum employment is achieved. In my opinion, that’s not good enough to get us where we need to go, and it is insufficiently radical to decisively move the needle on inflation expectations. Bernanke keeps telling us that monetary policy is not a panacea; he is right that timid policies are not a panacea.
However, today's announcement is definitely progress, and the Fed is now intellectually and operationally far ahead of its global peers. And I might add that once the Fed actually begins to grow the monetary base by $85B/mo, that should go a long way toward cushioning the fiscal cliff.
To have unlimited access to our content including in-depth commentaries, book reviews, exclusive interviews, PS OnPoint and PS The Big Picture, please subscribe
Iran’s mass ballistic missile and drone attack on Israel last week raised anew the specter of a widening Middle East war that draws in Iran and its proxies, as well as Western countries like the United States. The urgent need to defuse tensions – starting by ending Israel’s war in Gaza and pursuing a lasting political solution to the Israeli-Palestinian conflict – is obvious, but can it be done?
The most successful development stories almost always involve major shifts in the sources of economic growth, which in turn allow economies to reinvent themselves out of necessity or by design. In China, the interplay of mounting external pressures, lagging household consumption, and falling productivity will increasingly shape China’s policy choices in the years ahead.
explains why the Chinese authorities should switch to a consumption- and productivity-led growth model.
Designing a progressive anti-violence strategy that delivers the safety for which a huge share of Latin Americans crave is perhaps the most difficult challenge facing many of the region’s governments. But it is also the most important.
urge the region’s progressives to start treating security as an essential component of social protection.
The FOMC met this week and made the following announcements:
1. The Fed believes that, without further QE, economic growth will not be strong enough to generate sustained improvement in labor market conditions (i.e., unemployment below 7%).
2. The Fed will continue purchasing additional MBS at $40 billion per month, and will also purchase longer-term Treasuries at $45 billion per month, for a monthly increase in the Monetary Base of $85 billion (3%), or $1 trillion annually (36%).
3. If unemployment does not decline to 6.5%, the Fed will continue its purchases until such a decline is achieved. However, that does not mean that QE3 will necessarily end when unemployment goes below 6.5%.
4. To support continued growth, the Fed will maintain its zero-interest rate policy (ZIRP) for a “considerable time” after the QE program ends and the economic recovery strengthens. (A “considerable time” is understood to mean not before mid-2015.)
5. The ZIRP will continue at least as long as the unemployment rate remains above 6-1/2%, inflation is no more than 0.5% above the Committee’s 2.0% longer-run goal, and longer-term inflation expectations continue to be well anchored (e.g., the TIPS-Treasury spread remains low).
Subscribe to PS Digital
Access every new PS commentary, our entire On Point suite of subscriber-exclusive content – including Longer Reads, Insider Interviews, Big Picture/Big Question, and Say More – and the full PS archive.
Subscribe Now
How should we Kremlinologists interpret these announcements? The good news is that Bernanke has managed to hold together his near-consensus in favor of unconventional monetary policy:
1. The Fed will QE, and will pursue ZIRP at least until 2015.
2. The Fed has announced an explicit unemployment target of 6.5%, which is the first time that it has operationalized its full employment mandate.
3. The rate of the Fed’s pace of asset expansion will more than double and will, if pursued through the end of the year, represent a material increase (36%) in the Fed’s balance sheet and the monetary base.
4. The Fed will add purchases of Treasuries to the QE program, which settle much faster than MBS and will have an immediate impact on the monetary base.
4. The Fed is prepared to tolerate a higher-than-target rate of inflation in order to achieve its unemployment target.
The markets have reacted mildly to the announcement, with Treasury yields and gold prices rising to reflect slightly higher inflationary expectations.
However, this announcement should not be interpreted as a decisive victory of Bernanke and his doves over the FOMC hawks. That is because the Fed continues to tie its hands by (1) limiting the scale of its intervention to a modest level compared to prior QEs; and (2) limiting inflation and thus nominal growth. Were the Fed to go all the way and target a nominal GDP level (i.e., a nominal GDP of $X), it would not only tolerate but actually desire above-target inflation. As long as the Fed places a higher priority on its inflation target than on its employment target, it may never achieve the employment target, or at least not very quickly.
This helps to explain the market’s muted reaction. Yes, the monetary base will now start to grow for the first time since QE2 ended in mid-2011; that is bullish for nominal and real growth (especially if the US goes over the fiscal cliff next month). But nominal growth will be limited to the sum of real growth and a maximum of 2.5% inflation, whether or not maximum employment is achieved.
In my opinion, that’s not good enough to get us where we need to go, and it is insufficiently radical to decisively move the needle on inflation expectations.
Bernanke keeps telling us that monetary policy is not a panacea; he is right that timid policies are not a panacea.
However, today's announcement is definitely progress, and the Fed is now intellectually and operationally far ahead of its global peers. And I might add that once the Fed actually begins to grow the monetary base by $85B/mo, that should go a long way toward cushioning the fiscal cliff.