No Surprises in FOMC Statement. Status Quo Kept
Below is the FOMC statement.
We highlighted the adjustments and additions made by the FOMC.
“Information received since the Federal Open Market Committee met in June suggests that economic activity is leveling out. Conditions in financial markets have improved further in recent weeks. Household spending has continued to show signs of stabilizing but remains constrained by ongoing job losses, sluggish income growth, lower housing wealth, and tight credit. Businesses are still cutting back on fixed investment and staffing but are making progress in bringing inventory stocks into better alignment with sales. Although economic activity is likely to remain weak for a time, the Committee continues to anticipate that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will contribute to a gradual resumption of sustainable economic growth in a context of price stability.
The prices of energy and other commodities have risen of late. However, substantial resource slack is likely to dampen cost pressures, and the Committee expects that inflation will remain subdued for some time.
In these circumstances, the Federal Reserve will employ all available tools to promote economic recovery and to preserve price stability. The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period. As previously announced, to provide support to mortgage lending and housing markets and to improve overall conditions in private credit markets, the Federal Reserve will purchase a total of up to $1.25 trillion of agency mortgage-backed securities and up to $200 billion of agency debt by the end of the year. In addition, the Federal Reserve is in the process of buying $300 billion of Treasury securities. To promote a smooth transition in markets as these purchases of Treasury securities are completed, the Committee has decided to gradually slow the pace of these transactions and anticipates that the full amount will be purchased by the end of October. The Committee will continue to evaluate the timing and overall amounts of its purchases of securities in light of the evolving economic outlook and conditions in financial markets. The Federal Reserve is monitoring the size and composition of its balance sheet and will make adjustments to its credit and liquidity programs as warranted.”
No voters dissented.
The first change of text was the added verbiage “economic activity is leveling out“. In June this text was written: “Information received since the Federal Open Market Committee met in April suggests that the pace of economic contraction is slowing.”
The adjustment implies the committee is becoming more confident that the worst case economic scenario has been avoided. However, the FOMC did not remove the term “suggests” which implies there is still a level of uncertainty about the extent to which a stabilization has occurred. Furthermore the term “leveling out” does not imply growth, instead it adds to “avoidance of the worst case scenario” rhetoric.
Next, the text was altered to state that “Conditions in financial markets have improved further in recent weeks”. In June this read “Conditions in financial markets have generally improved in recent months. The only speculation one can take from this is the removal of the term “generally”. One might say the elimination of this word serves as confirmation that conditions in financial markets have definitely improved. The change from months to weeks reflects the time since the last meeting. Not much to look into in regards to that substitution.
The FOMC's next alteration is however an added cause for concern. The Fed added “sluggish income growth” to their laundry list of worries. Last month this metric was not included in the statement.
This is a very important addition because it confirms the Fed's growing fears that a consumer led recovery is becoming more elusive. Consumer spending is the fuel that drives domestic economic output, without wage growth, prices will have to move lower to spark consumer demand, which would restrain recovery efforts and possibly lead to a deflationary spiral. The labor market and long term economic growth are clearly a major concern of the Federal Reserve.
The following tweak, although minimal, confirms a key factor in the Fed's economic outlook. From Ben Bernanke's prepared testimony, June 3, 2009, before the House Budget Committee:
“We continue to expect overall economic activity to bottom out, and then to turn up later this year. Our assessments that consumer spending and housing demand will stabilize and that the pace of inventory liquidation will slow are key building blocks of that forecast.”
The June FOMC statement included this sentence regarding business inventories:
“Businesses are still cutting back on fixed investment and staffing but appear to be making progress in bringing inventory stocks into better alignment with sales.”
The August statement had one small change to that statement:
“Businesses are still cutting back on fixed investment and staffing but are making progress in bringing inventory stocks into better alignment with sales.”
A small change, but again, it implies the Federal Reserve's plan for stabilization is working on several important levels. The change from “appear to be” to “are” is simply confirmation that this metric has, and continues to, normalize.
This next addition was important in the eyes of mortgage market participants. In March, the Federal Reserve announced it would buy up to $300 billion in Treasury securities by the end of September (6 months). This resulted in several months of Fed supported Treasury market liquidity, falling Treasury yields, and record low mortgage rates.
The addition of this verbiage suggests that FOMC considerations to extend the Treasury Purchase Program are dwindling:
“thernFederal Reserve is in the process of buying $300 billion of Treasuryrnsecurities. To promote a smooth transition in markets as thesernpurchases of Treasury securities are completed, the Committee hasrndecided to gradually slow the pace of these transactions andrnanticipates that the full amount will be purchased by the end ofrnOctober.”
Plain and Simple: Instead of abruptly ending the program, the Federal Reserve will gradually ease their way out of it.
The broad based perception of mortgage and real estate professionals is that housing remains very weak. Most believe the expiration of the Treasury purchase program will result in higher Treasury yields and consequently rising mortgage rates, which will further dampen the housing recovery. The gradual phase out of Fed Treasury buying should serve to alleviate some of the stress of lost demand side support. Furthermore the Fed's MBS and Agency Debt purchase program remains in tact.
In the coming weeks we should see the market's reaction to therntermination of the Treasury purchase program. It should however bernnoted that not all hope for extension has been lost as the text… “The Federal Reserve is monitoring the size and composition of itsrnbalance sheet and will make adjustments to its credit and liquidityrnprograms as warranted”… was not removed.
Plain and Simple: Although we have dissected policy statement alterations in great speculative detail, this FOMC statement was “as expected”. The Fed confirmed that the Fed funds rate will be kept at an exceptionally low rate for an extended period of time, they validated the market's belief that stabilization was occurring and the worst case scenario had been avoided. However the FOMC was sure to keep market participants from getting too excited about an economic recovery as many roadblocks lie ahead (weak labor market).
Overall no surprises from the FOMC today. Status quo was kept in the marketplace.
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