Photo Credit: Reuters/Jonathan Ernst
U.S. Federal Reserve Chairman Ben Bernanke is turning Japanese. Policy changes in Japan ease out in dribs and drabs. By the time they are announced they are old news. So it is with Bernanke and the Fed’s quantitative easing. He is attempting to accustom investors to the notion that their punch bowl will start to be taken away later this year, and fully removed by mid-2014.
Equities, bonds and commodities have all traded skittishly at the prospect. Investors have tried to second-guess the timing now the Fed has shifted from a madcap “whatever it takes” position on monetary policy to something akin to a saner “looks like it will soon look like we’re done with that.”
In his Congressional testimony this week, the Fed chairman went out of his way to be calming. He stressed that accommodative monetary policy will “remain appropriate for the foreseeable future.” The Fed, he said, was not on a preset course to unwind its $85-billion-a-month assets purchasing scheme — taper quantitative easing, in the jargon. It will respond to economic conditions as they exist.
At the same time, the central bank is making it clear that economic conditions will continue to be as they expect — moderate growth and job creation through the rest of this year and beyond. (For all the Fed’s monetary alchemy since the 2008 global financial crisis to inflate assets such as stocks and housing, it hasn’t found a way to turn that into robust employment growth.) The latest Beige Book, a digest of commentary on economic activity seen by each of the Fed’s 12 regional districts, shows a modest to moderate pick up across the board with inflation contained. There is nothing to suggest that Bernanke will need to diverge from the timetable he sketched out in June and again this week but has not announced.
A key date is the start. The market consensus on a September kickoff is holding, but with diminishing conviction. December is gaining more adherents. Delaying until then would give the Fed more time to get confirmation from the data that its 7% unemployment threshold for tapering was holding solidly. An alternative would be for a first reduction in asset purchases in September and then a wait as the central bank evaluates its impact before making the next cut.
That might be a distinction without a difference; it might risk a repeat of the recent uncertainty-driven market volatility. A steady monthly reduction by $15-20 billion would make it easier for the Fed to manage market expectations, and conclude the taper in five to seven months.
Its bigger challenge will be to convince markets that quantitative easing and interest rates are separate policy tools. They are in the minds of Fed officials, if not necessarily bond investors. Bernanke in effect told lawmakers this week that continuing modest growth will require rates to remain “exceptionally” low long after quantitative easing is history. It will be a sign that central banking has returned to something that looks like normal when the debate is not over when will tapering start, but when the first rate hike will come.
