USA TODAY International Edition
Fed to remove U.S. economy’s crutch, shrink balance sheet
‘In some sense it’s no longer needed,’ Fed Chair Janet Yellen says of $4.5T in holdings
WASHINGTON The U.S. economy is finally sturdy enough for the Federal Reserve to withdraw the extraordinary support it has provided it since the depths of the recession and financial crisis.
In a move that that could nudge consumer borrowing costs higher, the Fed agreed Wednesday to begin gradually shedding much of the roughly $3.5 trillion in bonds it snapped up during and after the downturn to lower long-term interest rates.
“We’re working down our balance sheet because we think in some sense it’s no longer needed,” Fed Chair Janet Yellen said at a news conference. “We feel the U.S. economy is performing well.”
And while the Fed held its key short-term interest rate steady, at a range of 1% to 1.25%, it maintained its forecast for a third rate hike in 2017 and three increases next year. But in a nod to weak inflation, the Fed cut its projection from three rate increases to two in 2019. By 2020, the Fed expects its benchmark rate to be 2.9%, and it trimmed its estimate of the rate over the longer run to 2.8% from 3%.
Higher interest rates would push up costs for everything from car loans and mortgages to business loans. Fed officials, however, have indicated they could forgo another rate increase late this year if inflation doesn’t accelerate. The Fed lowered its inflation forecast for this year to 1.5% from 1.7% in its June estimate and to 1.9% next year from its prior projection of 2%.
“If the (inflation) shortfall is persistent, it will be necessary to adjust monetary policy to address that,” Yellen said.
“Storm-related disruptions and rebuilding will affect economic activity in the near-term, but past experience suggests that the storms are unlikely to materially alter the course of the national economy over the medium term,” the Fed said in a statement following the meeting.
Despite the impact of the hurricanes, the Fed now expects the economy to grow 2.4% this year, up from its prior forecast of 2%.
The storms are expected to reduce third-quarter economic growth to about 2.2% from 2.7%, economists say, with much of the loss made up in the fourth quarter.
The Fed’s road map also could be redrawn if its leadership is overhauled. Fed Vice Chair Stanley Fischer has announced he’ll step down next month. And Yellen’s term expires in February, though President Trump has said he hasn’t ruled out reappointing the Democrat. Trump also must fill three other vacancies on the Fed’s board of governors.
Meanwhile, the widely expected shrinking of the Fed’s bloated balance sheet marks a milestone for the 8-year-old economic recovery. From 2008 to 2014, the Fed purchased more than $3.5 trillion in Treasury bonds and mortgage-backed securities in a campaign to lower long-term interest rates and stimulate a listless economy, swelling its balance sheet to $4.5 trillion.
The unprecedented program was widely credited with staving off a potential depression and has been mimicked by several major central banks around the globe. But with the U.S. economy on solid footing, Fed officials worry the low rates are encouraging investments in higher-yielding assets, increasing the risk of bubbles that eventually may pop.