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Fed Officials Try to Soothe Rattled Financial Markets


July 1 - Federal Reserve officials turned out in force recently to soothe financial markets rattled by comments from Chairman Ben Bernanke regarding the timing of the central bank’s retreat from its accommodative monetary stance. During a press conference following the Federal Open Market Committee meeting on June 18 and 19, Bernanke suggested the committee may begin slowing its bond buying later this year if the economy meets its objectives.

“The Federal Reserve is likely to keep most of these assets on its balance sheet for a long time,”said New York Fed President William Dudley at a regional economic press briefing in New York City. “As Chairman Bernanke noted in his press conference last week, a strong majority of FOMC participants no longer favor selling agency MBS securities during the monetary policy normalization
process. This implies a bigger balance sheet for longer, which provides additional accommodation today and continuing support for mortgage markets going forward.”

Under this scenario, a rise in short-term rates is very likely to be a long way off, in Dudley’s view. “Not only will it likely take considerable time to reach the FOMC’s 6.5 percent unemployment rate threshold, but also the FOMC could wait considerably longer before raising short-term rates,” he said. “The fact that inflation is coming in well below the FOMC’s 2 percent objective is relevant here. Most FOMC participants currently do not expect short-term rates to begin to rise until 2015.”

Atlanta Fed President Dennis Lockhart, in a June 27 speech to the Kiwanis Club of Marietta, Ga., said that the policy position of the FOMC has not changed regarding the fed funds rate. The policy interest rate is as low as it can go, and the FOMC has stated it will remain there at least until the unemployment rate approaches a threshold of 6.5 percent.

Lockhart estimated that this unemployment rate threshold, and lifting of the fed funds rate, will come sometime in 2015. Lockhart pointed out that, as the chairman made clear, there is no  "predetermined” pace of reductions in the asset purchases, nor is the stopping point fixed. The pace of purchases, the composition of purchases, and the ultimate size of the Fed’s balance sheet still depend on how economic conditions evolve, Lockhart stressed. All elements of the asset purchase
program will be considered on a meeting-by-meeting basis in light of the incoming data and economic outlook.

Jeffrey Lacker, president of the Richmond Fed, deemed it wise of Bernanke to clarify the committee’s expectations regarding how the pace of asset purchases is likely to evolve. “Bond and stock markets fell sharply in response, but that should not be too surprising,” he said in comments at a judicial conference in White Sulphur Springs, W.Va., on June 28. “The chairman’s statement forced financial
market participants to re-evaluate the likely total amount of securities the Fed would buy under this open-ended purchase plan — in other words, how much liquor would ultimately be poured into the punch bowl.

“Market participants also had to reconsider their estimate of when the Federal Reserve would begin to remove the punch bowl by raising interest rates,” Lacker went on. “These reassessments appear to have warranted price changes across an array of financial assets. As market participants gain additional insight from the words of Federal Reserve officials or by policy actions in coming quarters, further
asset price volatility seems likely.”

Gov. Jeremy Stein of the Federal Reserve Board said he viewed Bernanke’s remarks at his press conference — in which he suggested that if the economy progresses generally as anticipated, then the asset purchase program might be expected to wrap up when unemployment falls to the 7 percent range — as an effort to put more specificity around the heretofore less well-defined notion of “substantial progress.”

Speaking before the Council on Foreign Relations in New York City on June 28, Stein said it is important to stress that this added clarity is not a statement of unconditional optimism, nor does it represent a departure from the basic data-dependent philosophy of the asset purchase program. “Rather,” he continued, “it involves a subtler change in how data-dependence is implemented — a greater willingness to spell out what the committee is looking for, as opposed to a ‘we’ll know it when we see it’ approach.”