The latest predictions Monday for when the Federal Reserve will start slowing the pace of its aggressive bond purchases show a general belief that the central bank wants to transition away from using this particular unconventional tool, but uncertainty remains about when the process will begin.
The Fed’s policymaking Federal Open Market Committee meets Dec. 17-18, when members will have to decide if there has been enough improvement in the outlook for the labor market to warrant scaling back its $85 billion a month in U.S. Treasury and mortgage security purchases.
The Fed is ready to let quantitative easing go and return to more traditional monetary policies, Standard & Poor’s U.S. Chief Economist Beth Ann Bovino said Monday during a presentation of the rating agency’s 2014 Economic Outlook.
“We’ve been saying that the Fed will likely move in December. We’ve had that opinion since June,” she said.
Why? Jobs gains are averaging 195,000 a month for the year, Bovino said, while consumers are more willing to spend and the private sector is holding up “rather well.” The private sector is likely to grow by about 2.7% this year, she said, with a stronger pace expected in 2014.
In addition, she said the Murray-Ryan budget deal approved by the House of Representatives last week – if it passes the Senate – “takes away a little bit more concern about the possibility of much more fiscal issues in the first quarter.”
“So it gives (the Fed) a little bit more reason to move,” she said.
Economists at Bank of America-Merrill Lynch are of a different view, however, saying in a research note Monday that “We agree with the market that the chances of a December taper have risen of late, but we still expect the Fed to taper in 1Q next year.”
“The FOMC’s statement, projections, and Ben Bernanke’s final press conference should all reinforce the Fed’s patience,” Michael Hanson, a former economist at the Fed, wrote, adding “We look for the Fed to strengthen its forward guidance over the course of 2014, but expect at most additional qualitative refinements at this meeting.”
Hanson acknowledged that while better data of late and the budget deal have increased the chance of a December taper, BoA-ML’s base case remains March 2014, “with January very close behind.”
He cautioned that “some have suggested that since the markets are ‘ready,’ the Fed should, and will, taper. But the same arguments were made back in September, and Fed officials paid them no more heed back then.”
“Specifically, we suspect that, after years of their growth and inflation forecasts having been proven too optimistic, the FOMC will wait for more concrete evidence of an improved outlook before tapering,” Hanson said.
He also sees a lower likelihood for the Fed to reduce the 6.5% unemployment threshold or add an inflation floor – “although these will remain on the Fed’s agenda for next year,” saying there is a greater chance of monetary policymakers providing additional “qualitative discussion” about the conditions for the first fed funds rate hike and policy thereafter.
“The October minutes revealed relatively low support for any specific change in the Fed’s forward guidance,” Hanson said, “in our view, the FOMC will reduce the unemployment threshold – at least to 6%, if not lower – at some point next year.”
Regardless of whether the Fed chooses to taper at this week’s FOMC meeting or in early 2014, Bovino said she believes the Fed is ready to shift policy away from quantitative easing towards interest rate policy with forward guidance.
As Dallas Fed President Richard Fisher declared in a Dec. 9 speech, “I would feel more comfortable were we to remove ourselves as soon as possible from interfering with the normal price-setting functioning of financial markets … . If the members of the FOMC could manage to get themselves to once again be thought of as humble, competent people on the level of dentists, that would be splendid.”