U.S. FOMC Left Fed Funds Target Unchanged and Maintained Size of Monthly Purchase Program
 

• The Federal Open Market Committee (FOMC) maintained the size of its securities purchase program at $40 billion of agency mortgage-backed securities (MBS) and $45 billion longer-term Treasuries monthly.
• The fed funds target was held in the 0.00% to 0.25% range.
• The Fed reiterated that downside risks to the economy and labour market have fallen since last autumn and stated that policy is geared to keeping downward pressure on longer-term rates, mortgage rates, and keeping financial conditions accommodative. The timing of moderation in the size of asset purchase program is contingent on incoming data confirming that labour market and inflation conditions are on track to meet Fed’s expectations. The US government’s partial shutdown and uncertainty about how the ongoing fiscal negotiations in Washington will play out are likely to prevent acceleration in the economy’s growth rate in the near term thereby keeping the Fed sidelined until 2014.

The FOMC announced no changes to policy with the fed funds target range maintained at 0.00% to 0.25%, and the amount of monthly securities purchases held at $40 billion of MBS and $45 billion of US Treasury bonds. Once again, the statement alluded to future lessening in the amount of monthly purchases in the context of the continued improvement in labour market conditions and increase in inflation toward the Fed’s longer-run objective of 2.0%. The Fed anticipates that the current fed funds target range will be “appropriate at least as long as the unemployment rate remains above 6.5%” and the outlook for inflation remains “no more than a half percentage point” above the Committee’s 2% longer-run goal.

The decision was dissented once again by Ester George who is concerned about that maintaining the high level of policy support may lead to the creation of imbalances within the economy and financial markets with the potential to increase inflation expectations.

The assessment of the state of the economy was very little changed from September with output having “continued to expand at a moderate pace,” the labour market showing “further” improvement while the unemployment rate remains “elevated.” Fiscal policy is holding back the pace of economic growth although consumption and business investment advanced. The Fed acknowledged that housing activity slowed “somewhat” in recent months. Unlike September, the Fed did not point to mortgage rates as having moved up. Furthermore, concerns about the tightening in financial conditions that were cited in September were omitted from today’s statement. Inflation, the Fed said, has been below the long-term objective although this has not affected inflation expectations, which are stable.

The US economy continued to expand in the third quarter of 2013 at a sufficient pace for the unemployment rate to end the quarter at 7.2% from 7.6% at the end of the second quarter. While the trajectory of the unemployment rate is in the right direction, the level remains well above the 6.5% threshold noted by the Fed as being the level at which a reduction in policy stimulus via an increase in the fed funds target would be contemplated. The partial government shutdown in the first 16 days of October likely resulted in a pickup in the unemployment rate in October as workers associated with the government were temporarily laid off or had their hours reduced.

While this uptick in the unemployment rate will be a one-off rise, the drop in US consumer confidence in October suggests that consumers may have tempered spending in the month. Whether this pressure on confidence subsides going forward will be contingent on more permanent fiscal solutions to deficit reduction emerging within Congress and the administration. The increased downside risk to the near-term outlook was likely a key factor supporting today’s decision to keep policy unchanged; although, there was no mention of this in the statement, and markets will be scouring the meeting minutes when they are released in three weeks time to see FOMC member’s expectations about the effect on the economy. It is likely that the Fed will not implement any changes until after the next round of fiscal negotiations in Washington has been successfully completed late this year or early next year and when the economy has clearly returned to a stronger growth path.

Information contained in this report has been prepared by the Economics Department of RBC Financial Group based on information obtained from sources considered to be reliable. While every effort has been made to ensure accuracy and completeness, RBC Financial Group makes no such representation or warranty, express or implied. This report is for information purposes only and does not constitute an offer to sell or a solicitation to buy securities.

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