The Federal Reserve deftly changes tack

The Federal Reserve has begun withdrawing from the extraordinary measures it has taken to help the US tackle the coronavirus pandemic. It does not currently make major leaps – during its meeting this week it did not change its interest rate nor did it change the rate at which it buys assets through its quantitative easing schemes, but also changes how the central bank communicate his intentions. The Fed is ready to tread carefully: there is still a lot of uncertainty about the outlook.

Jay Powell, chairman, said at the press conference on Wednesday after the meeting, that the forecast for the US economy was better than the Fed had previously predicted. Vaccinations, policy support and the reopening of businesses all meant that growth, employment and inflation were higher than the central bank expected. “There’s every reason to think we’ll be in a job market with a lot of attractive numbers,” Powell said.

However, the rise in inflation is worrying for the central bank. The rate at which prices rose surprised the policy committee – the central bank was forced to revise its forecast for core inflation, which eliminates volatile food and energy prices, to 3 per cent this year from 2.2 per cent at its March meeting. . “Bottlenecks” of the reopening of the US economy were larger than expected, the Fed said, although it still expects these effects to be “short-lived”, with core inflation falling to 2.1 percent in 2021.

This faster-than-expected inflation nevertheless contributed to a more hawkish trend towards communication, although it was held in the context of a very dull set of policies – the central bank kept its interest rate target at 0 to 0.25 per cent and the rate of asset purchases at $ 120 billion per month. Investors should think of this meeting as ‘talking about the speculative meeting, I think’, in the words of Chairman Jay Powell. Such indications that the central bank has begun to think about reducing its asset purchases were enough, along with updating the central bank’s forecast on interest rates increases returns on US treasuries as well as the dollar.

The Fed deftly handled this shift. Investors and the central bank have largely coincided on the same point – market-based estimates of inflation have flattened after rising at the beginning of the year, while expectations of a 2022 rate hike have faded. The central bank has shown that under its new framework it can respond to better-than-expected data and indicate rising interest rates without destabilizing markets.

This will be crucial. Uncertainty exists about the outlook. While the labor market is recovering, Jay Powell noted, the long-term effect of the pandemic is not entirely clear. The unemployment rate may have halved in the past year, but many American workers have dropped out of the labor market altogether. Over time, and supportive monetary policy, they may return. Or, of greater concern, it may be that the ‘full employment’ the Fed is aiming for may already be much closer than he thinks, and that the policy will keep loose, only contribute to inflationary pressures.

Also, other cost pressures could be much less of time than the Fed is currently expecting. Wood prices may have fallen due to the rise they achieved earlier this year due to a construction and do-it-yourself boom, but it is still higher than the norm after the financial crisis. Meanwhile, commodity traders predict this oil can reach $ 100 per barrel. Powell has already shown his ability for fine footwork. This is encouraging: he will probably need it again.

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