Fed minutes show officials watching for stability

Minutes from the last Federal Reserve Board meeting where officials announced they were beginning to pull back from its bond-buying program showed officials are still cautious on the economy.

Jon Hilsenrath and Victoria McGrane wrote for the Wall Street Journal that one of the next pieces of business for the Fed would be watching for asset bubbles:

Federal Reserve officials in December turned their attention to the risk of dangerous financial bubbles emerging as they scanned a brightening economic outlook and formulated a plan to gradually wind down their bond-buying program this year.

While officials agreed that threats to financial stability were modest, the issue was at the center of wide-ranging discussions about emerging threats to the economy, according to minutes of the central bank’s Dec. 17-18 policy meeting, which were released Wednesday with the traditional three-week lag.

Watching for bubble threats could become one of the first big issues on the plate of Fed Vice Chairwoman Janet Yellen, who takes the reins as chairwoman on Feb. 1 after Ben Bernanke’s term as the Fed’s leader ends.

The Fed decided last month to reduce its monthly bond purchases to $75 billion from $85 billion. Barring a surprise in the economic data, the Fed is expected to shrink the size of its bond-buying again at its next policy meeting Jan. 28-29.

“The Fed is looking for evidence that they may be creating asset bubbles,” said Dan Greenhaus, chief global strategist at brokerage firm BTIG LLC. “That’s better than not looking.”

The Bloomberg story by Joshua Zumbrun and Craig Torres said that officials would discuss the next step for reducing the pace of bond buying as the economy gets stronger:

“A lot of people in the market think asset purchases have had declining benefits over time, and this is the first time I can recall the committee as a whole has really come out and agreed with that sentiment,” said Michael Feroli, chief U.S. economist at JPMorgan Chase & Co. in New York.

“The economy seems to be able to stand more on its own now,” Feroli said.

Some Fed officials “expressed the view that the criterion of substantial improvement in the outlook for the labor market was likely to be met in the coming year if the economy evolved as expected,” the minutes said.

At the same time, “several” officials noted that “a range of other indicators had shown less progress toward levels consistent with a full recovery in the labor market, and that the projected pickup in economic growth was not assured.”

The committee cut monthly purchases to $75 billion in December, from $85 billion, citing improvement in the labor market that pushed the jobless rate down to a five-year low of 7 percent.

The New York Times piece by Binyamin Appelbaum pointed out that the decision to reduce purchases is the final act by outgoing chairman Ben Bernanke:

The Fed’s path forward is a final compromise forged by its outgoing chairman, Ben S. Bernanke. Some Fed officials worry that the economy needs still more help; others argue that the Fed already is doing more harm than good.

Mr. Bernanke, who will step down at the end of the month, predicted in June that the Fed would taper by the end of the year, and it did.

“Participants generally anticipated that the improvement in labor market conditions would continue, and most had become more confident in that outlook,” the account said. “Against this backdrop, most participants saw a reduction in the pace of purchases as appropriate at this meeting and consistent with the committee’s previous policy communications.”

The next wave of decisions will be made under new leadership. The Senate confirmed the Fed’s vice chairwoman, Janet L. Yellen, as Mr. Bernanke’s successor earlier this week. She will lead her first meeting of the Fed’s policy-making committee in March. While Ms. Yellen has expressed concerns about the labor market, she supported the decision to start tempering the stimulus efforts.

Paul Davidson wrote in USA Today that the Fed will continue to keep interest rates low after unemployment falls below 6.5%:

The Fed emphasized that the pace of the tapering would depend on the course of the economy, but that the Fed likely would cut the purchases “in further measured steps at future meetings,” assuming the economy continues to advance. At his post-meeting news conference, Fed Chairman Ben Bernanke indicated purchases could be reduced in increments of $10 billion and halted by the end of 2014.

The Fed also emphasized that it would keep short-term interest rates near zero until “well past” the time unemployment reaches its 6.5% threshold.

At the meeting, some Fed officials argued for lowering the threshold to 6%, saying that would be a “clear signal” of their intentions “in light of recent labor market and inflation trends.” They were particularly worried that investors would interpret the tapering as a signal that the Fed would increase its benchmark short-term rate earlier than anticipated, an assumption that would push up rates. Since the meeting, 10-year Treasury yields have risen relatively modestly from about 2.85% to about 3%.

But “a few others” said modifying the threshold “might be confusing and could undermine the credibility” of the Fed’s guidance.

So far, the Fed’s guidance has been fairly clear and consistent, allowing the markets to remain fairly stable. It will be interesting to see how Yellen will lead the organization, but if she follows Bernanke’s lead, at least investors will continue to have a window into how they’re making decisions.