The Federal Reserve released the minutes from their September policy meeting where the now famous “Operation Twist” was unveiled. The minutes released today indicate the Fed plans to keep a third quantitative easing program in their arsenal to combat a possible deflation threat or a widening of the output gap.
More Money Printing Could Be on the Way
Despite September’s upside surprise on the jobs data, the economy is still seen as growing well below potential. Even if the relative strength of September’s jobs numbers (100K jobs/month) remain, the unemployment rate is unlikely to fall and growth will remain near stagnant. The Fed sees the economic picture as weakening going into the end of September and lowered their growth forecasts as a result. The Fed, in response to their bleak outlook, engaged in a policy designed to increase the average maturity of their balance sheet without affecting the overall size, thereby flattening the yield curve. Some considered QE3 as a better option than a maturity composition shift but preferred to reserve another asset purchase program for future needs. According to the minutes,
Some judged that large-scale asset purchases and the resulting expansion of the Federal Reserve’s balance sheet would be more likely to raise inflation and inflation expectations than to stimulate economic activity and argued that such tools should be reserved for circumstances in which the risk of deflation was elevated.That said, some members did the see risk of deflation as elevated. This is due to a measurement derived from Treasury Inflation Protected Securities (TIPS) spreads, which estimates the probability of deflation. One bound of the measure has risen by about 6% since the summer to 16.63% as of October 5th:
TIPS DERIVED DEFLATION PROBABILITY
Dissenters to Remain a Minority
There seems to be large ideological differences between the near record number of dissenters and the Fed’s controlling majority. The Fed has had three dissenters in their last two meetings, the largest amount since 1992. The dissenters do not just disagree with magnitude of Fed decisions but the entire nature of the policy’s effects.
The minutes explain the nature of the dissents:
Fisher, Kocherlakota, and Plosser dissented because they did not support additional policy accommodation at this time. Mr. Fisher saw a maturity extension program as providing few, if any, benefits in support of job creation or economic growth, while it could potentially constrain or complicate the timely removal of policy accommodation. In his view, any reduction in long-term Treasury rates resulting from this policy action would likely lead to further hoarding by savers, with counterproductive results on business and consumer confidence and spending behaviors. He felt that policymakers should instead focus their attention on improving the monetary policy transmission mechanism, particularly with regard to the activity of community banks, which are vital to small business lending and job creation. Mr. Kocherlakota’s perspective on the policy decision was again shaped by his view that in November 2010, the Committee had chosen a level of accommodation that was well calibrated for the condition of the economy. Since November, inflation, and the one-year-ahead forecast for inflation, had risen, while unemployment, and the one-year-ahead forecast for unemployment, had fallen. He did not believe that providing more monetary accommodation was the appropriate response to those changes in the economy, given the current policy framework.
Mr. Plosser felt that a maturity extension program would do little to improve near-term growth or employment, in light of the ongoing structural adjustments and fiscal challenges both in the United States and abroad. Moreover, in his view, with inflation continuing to run above earlier forecasts, such a program could risk adding unwanted inflationary pressures and complicate the eventual exit from the period of extraordinarily accommodative monetary policy.
Despite these strong dissents the Fed leadership and the clear majority of FOMC voting members favour the current policy and are on the dovish side of expected policy options. QE3 Seems inevitably on its way and not even three ardent Federal Open Market Committee (FOMC) voting members can stop it.
More Money Printing Could Be on the Way
A number of participants saw large-scale asset purchases as potentially a more potent tool that should be retained as an option in the event that further policy action to support a stronger economic recovery was warranted.
Others saw QE3 as more dangerous than helpful,Some judged that large-scale asset purchases and the resulting expansion of the Federal Reserve’s balance sheet would be more likely to raise inflation and inflation expectations than to stimulate economic activity and argued that such tools should be reserved for circumstances in which the risk of deflation was elevated.
TIPS DERIVED DEFLATION PROBABILITY
Dissenters to Remain a Minority
There seems to be large ideological differences between the near record number of dissenters and the Fed’s controlling majority. The Fed has had three dissenters in their last two meetings, the largest amount since 1992. The dissenters do not just disagree with magnitude of Fed decisions but the entire nature of the policy’s effects.
The minutes explain the nature of the dissents:
Fisher, Kocherlakota, and Plosser dissented because they did not support additional policy accommodation at this time. Mr. Fisher saw a maturity extension program as providing few, if any, benefits in support of job creation or economic growth, while it could potentially constrain or complicate the timely removal of policy accommodation. In his view, any reduction in long-term Treasury rates resulting from this policy action would likely lead to further hoarding by savers, with counterproductive results on business and consumer confidence and spending behaviors. He felt that policymakers should instead focus their attention on improving the monetary policy transmission mechanism, particularly with regard to the activity of community banks, which are vital to small business lending and job creation. Mr. Kocherlakota’s perspective on the policy decision was again shaped by his view that in November 2010, the Committee had chosen a level of accommodation that was well calibrated for the condition of the economy. Since November, inflation, and the one-year-ahead forecast for inflation, had risen, while unemployment, and the one-year-ahead forecast for unemployment, had fallen. He did not believe that providing more monetary accommodation was the appropriate response to those changes in the economy, given the current policy framework.
Mr. Plosser felt that a maturity extension program would do little to improve near-term growth or employment, in light of the ongoing structural adjustments and fiscal challenges both in the United States and abroad. Moreover, in his view, with inflation continuing to run above earlier forecasts, such a program could risk adding unwanted inflationary pressures and complicate the eventual exit from the period of extraordinarily accommodative monetary policy.
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