NO RATE HIKE FROM FED,
Both moves by the central bank were widely anticipated
The Federal Reserve held its key short-term interest rate steady Wednesday but signaled that it likely will begin shrinking its $4.5 trillion asset portfolio in September in an initiative that will nudge long-term rates higher.
Both moves were widely anticipated as the central bank grapples with both low 4.4% unemployment and persistently weak inflation — signs of an economy that has largely healed since the Great Recession but is still constrained by its aftereffects.
In a statement after a two-day meeting, the Fed said it was maintaining its current bloated balance sheet “for the time being ” but plans to start unwinding it “relatively soon,” language that many economists said would herald an announcement of the program’s launch at the next Fed meeting in September.
Jim O’Sullivan, economist with High Frequency Economics, based in Valhalla, N.Y., says the term “is a very clear signal that they expect/hope to start the program at the September meeting.”
The Fed largely kept its prior upbeat appraisal of the economy. It said “the labor market has continued to strengthen” and that “economic activity has been rising moderately so far this year.”
In a nod to recent healthy payroll growth, it added that “job gains have been solid,” removing its previous assertion that job creation had “moderated.”
And the Fed reiterated that inflation has declined and is running below the Fed’s 2% annual goal.
The economy overall, however, is sturdy enough for the Fed to begin withdrawing the extraordinary stimulus it enacted after the financial downturn. Fed officials had purchased about $3.5 trillion in Treasury bonds and mortgagebacked securities after the financial crisis to push down longterm rates for mortgage and other debt, swelling its balance sheet to $4.5 trillion.
Now, with the economy on a more solid footing, Fed officials are concerned the low rates could drive investments to higheryielding assets, eventually creating bubbles that may burst.
It plans to whittle down the portfolio by not reinvesting the proceeds from some of the bonds as they mature. Initially, it plans to limit the assets that roll off its books each month to $10 billion and gradually increase the cap to $50 billion within 12 months. The balance sheet is expected to level off at about $2.5 trillion to $3 trillion in several years, still significantly above the prefinancial crisis level of about $1 trillion. Financial markets largely have taken news of the initiative in stride, with 10-year Treasury yields remaining low and stocks surging higher.
Meanwhile, Yellen has said the Fed will continue to use its key short-term rate as its main tool to control inflation or stimulate the economy.
The Fed has raised the benchmark rate twice in 2017 and forecast a third hike later this year largely because the unemployment rate has been tumbling. That typically foreshadows faster wage and price increases.
That’s because employers bid up to attract fewer available workers, and the higher labor costs trigger price hikes as firms try to maintain profits.
The Fed traditionally has lifted rates to head off excessive infla- tion down the road.
Average U.S. wages increased 2.5% in June from a year earlier, up from the tepid 2% pace for much of the recovery but down from nearly 3% early this year. The Fed’s preferred measure of price inflation similarly has fallen to 1.4% annually after nearing its 2% target several months ago. The Fed seeks to avoid chronically sluggish inflation, which often signals a weak economy and could lead to deflation, or a drop in wages and prices that spurs consumers to put off purchases.
Yellen told Congress that she believes inflation has been restrained by temporary factors, such as the rollout of unlimited cellphone plans, and that declining unemployment should eventually spark sharper wage and price increases.
But she indicated that Fed officials will closely monitor inflation and could change course if it remains listless, suggesting the Fed could put off a third rate hike this year.
Some economists believe inflation has been held back by longer-term forces, such as meager growth in worker productivity, or output, global competition that has tempered both salary and price increases and a shift to discounted online shopping.
Those factors could keep wages and prices suppressed longer.