Slight shift in Federal Reserve policy

The closely watched Federal Reserve meeting this week had some investors and journalists looking for changes to the bond-buying plans that have been in effect for much of the past year. And they got it with the Fed signaling that it might increase the purchases if necessary, a shift from previous statement they would remain constant.

Here’s the story from the Wall Street Journal:

Federal Reserve officials said they will press ahead with their $85-billion-a-month bond-buying program and signaled they could either increase or decrease the amount they purchase each month depending on the job market and inflation.

The Fed’s latest policy statement marks a shift from earlier this year, when officials didn’t explicitly hold out the possibility of increased bond purchases. Rather, they had begun to openly discuss gradually winding down the program.

“The Committee is prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changes,” the Fed said in its official statement.

In the policy statement released Wednesday, the Fed said inflation was “running somewhat below” the central bank’s 2% goal and that the job market had “shown some improvement,” almost exactly how it described the economic situation in its March statement. The Fed has said it would keep the bond-buying programs going until it saw substantial gains in the job market.

One of the bigger shifts for the Fed since its March policy meeting is on the inflation front. The Commerce Department reported Monday that consumer prices—as measured by its personal-consumption-expenditure price index—were up 1% in March from a year earlier, the smallest year-on-year increase since late 2009.

The New York Times added this context to the discussion:

The pace of economic growth appeared to slow in the weeks before the meeting. Inflation slackened in March to the slowest pace in two years, while employers added the fewest jobs in any month since last summer. And economists say that the pain of federal spending cuts is just starting to be felt.

Inflation was just 1.1 percent in the 12 months that ended in March, according to the most recent data from the Fed’s preferred inflation gauge, the Commerce Department’s index of personal consumption expenditures. That is well below the 2 percent annual pace that the Fed considers healthy.

Moreover, the share of Americans with jobs has not increased since the recession.

The central bank is modestly expanding its stimulus campaign each month as it expands its bond portfolio. But the Fed’s most recent economic projections, published in March, showed that most officials expected persistently low inflation and persistently high unemployment for years to come.

Officials, however, are reluctant to do more. They see modest benefits and uncertain costs in buying more bonds. The volume of the Fed’s first-quarter purchases already roughly equaled the volume of new mortgage bond issuance and about 72 percent of the volume of new issuance of long-term federal debt.

And the Fed already has tied the duration of low interest rates to the unemployment rate, announcing in December that it intended to hold its benchmark short-term interest rate near zero at least as long as the unemployment rate remained above 6.5 percent, provided that inflation remained under control.

Still, the Fed changed the language of its statement to emphasize that it was willing to adjust the pace of its asset purchases. “The committee is prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changes,” it said.

What’s interesting is that many analysts expected the Federal Reserve to decrease its purchases, not signal an increase if necessary. This may be a sign that members of the Fed are also having difficulty piecing together the economic news to get a full picture of where the economy is heading. Here’s the USA Today take on the news:

Until recently, strong economic activity and job growth early this year had persuaded Fed policymakers to signal that they could begin to scale back the bond purchases by midyear to head off inflation and market instability.

But a report earlier in late April showed inflation in March increased just 1% versus a the same a year ago, well below the Fed’s 2% target. Such a meager rise in wages and prices typically reflects a weak economy and it can prompt consumers to put off purchases on the belief that prices are likely to remain low.

As a result, some Fed officials recently have discussed the possibility of increasing the pace of the bond purchases in the unlikely event that very low inflation persists.

The Fed said in its May 1 statement that the economy has continued to grow moderately the past six weeks but it noted that deficit-cutting “is restraining economic growth.”

Recent across-the-board federal spending reductions and Congress’s failure to renew a payroll tax cut have begun to dampen growth.

As everyone searches for the elusive signal that the economic growth is actually here to stay, looks like even those at the top of the monetary policy are going to play it safe. They’re certainly not ready to make a call one way or the other based on Wednesday’s statements.