The Great Wait
There are eight Federal Reserve meetings with a press conference every year, but the quarterly meetings carry more weight. Yesterday one of the quarterlies happened.
Some of the highlights were:
• No formal announcement on when the tapering of asset purchases would begin, but it was signaled that an announcement may be coming as soon as November.
• An increased inflation (PCE) projection for 2021 from 3.4% to 4.2%, and for 2022 from 2.1% to 2.2%.
• A decreased GDP projection for 2021 from 7.0% to 5.9%, but an increase for 2022 from 3.3% to 3.8%.
• Two more Fed officials (now 9 out of 18) projected the first rate hike to happen before the end of 2022.
We’re still in a holding pattern on tapering, and Fed Chair Jerome Powell remained vague enough about the timing to allow for uncertainties through fall.
Flexing Their Flexibility
As we slowly exit crisis mode, the Fed continues to be incredibly cautious about making changes to its current monetary policy stance. Understandably so, since markets have been driven to new highs largely by the amount of liquidity and easy financial conditions put in place by the Fed. Pulling the food off the table too quickly could result in hungry mouths.
That said, some notable changes both in projections and tone occurred in this meeting. Namely, the increase in inflation projections and movement in the dot plot showing more members believing sooner rate hikes may be appropriate.
Perhaps more important were Powell’s remarks on the “tests” the Fed looks at to determine when tapering should begin. He discussed the indicators they watch—inflation and employment—and noted that substantial further progress has been made on inflation (check the box) and that many committee members feel that substantial further progress has also been made on employment, with Powell himself considering it “all but met.”
That’s more direct than he’s been in the past and suggests to me that an announcement of tapering is likely to come at the next meeting on November 3rd.
Ready? Or Not?
In my opinion, the economy and the markets are ready for the Fed to start tapering asset purchases. The messaging has been meticulously deliberate and careful, which allowed markets to set appropriate expectations and reduce the chance for a surprise. It’s important to note that a taper is not an ending of purchases, it’s simply a reduction in the amount of monthly purchases. Although there may be a wobble when the taper is announced, I do not expect it to cause meaningful or prolonged volatility in markets.
Rate hikes are a different story and markets will need some time to warm up to the idea. As careful as I expect the Fed to be with the messaging about rate hikes, this piece has more potential to move markets and we will undoubtedly discuss it in detail over the coming quarters. Until then, the liquidity punch bowl is still serving free refills.
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