Fed: On September’s Guidance and QE

Published on September 3, 2020

A week of an unusually well-coordinated communications campaign by nearly every member of the Federal Open Market Committee since Federal Reserve Chairman Jerome Powell’s Jackson Hole speech last Thursday is a testimony to how consequential Fed officials believe their changes to the “Statement of Longer Run Goals and Monetary Policy” will be, especially further out the policy horizon.

But threading through the zoomed framework messaging this week have been more urgently felt, often bluntly worded, market questions over whether the September 15-16 FOMC meeting will include a change in the post-meeting statement guidance on the duration weighting of treasury purchases.

** While we previously thought the earlier than expected release of the longer run statement at the start of the Jackson Hole conference was at least creating the option for, if not teeing up, a September meeting transition from “stabilization to accommodation” (SGH 8/27/20, “Fed: The Powell Jackson Hole Takeaways”), we now think it unlikely there will be any September meeting adjustments to a longer duration weighting in the Fed’s current treasury purchases.

** Our sense is that a Committee majority, including the leadership, believe it would be premature to do so, especially when yields are still so low and there is little doubt over the likelihood of low rates for an awfully long time. The FOMC is taking a careful and methodical approach in the follow through from the new framework to the transition to monetary policy, including an assessment of the eventual mix of the policy tools and communications. Few Committee members see a pressing need to lock in even more aggressive accommodation in September.

** We think the preference is instead to wait until a later meeting, probably December, to make the eventual shift in rates and balance sheet policy. There are a number of reasons. For one, while many of the Fed staff in their forecasting rounds next week seem likely to mark up growth through the rest of this year, we understand there is still considerable uncertainty further out the forecasting horizon, especially over the scale of fiscal policy and the progress of the virus. By December, the thinking is there may be greater clarity on both fronts that would allow for a clearer sense of how much accommodation might be needed.

** What’s more, there are still critical internal deliberations on balance sheet policy and the exact nature of the thresholds that need to be worked out. Our sense, for instance, is that the FOMC and staff only recently began a potentially consequential round of research and discussions to better understand the inter-connections and potential cross-purposes between the post-reserve scarcity, ample reserves balance sheet policy, the recent need to rapidly and aggressively expand the balance sheet to ensure market function, and a reassessment of the channels through which intended accommodation is being transmitted into the real economy.

** To be honest, we are unsure how exactly these balance sheet discussions will play out, or how they fit if at all in with the now stated need for “a stable financial system” that made its way into the longer run statement. There is likewise staff work underway looking into treasury market liquidity issues, bank and shadow system supervision, and an effort to draw on whatever lessons are to be taken from the March market meltdown and last September’s repo volatility.

** But we suspect that is the point, and Fed officials don’t know either, and so are proceeding with a fair degree of caution in their approach to future balance sheet policies, and the previous assumptions in how it is to complement rates guidance – all of which points to a later rather than sooner adoption of a newly constructed accommodative policy stance and how it will be communicated.

** And on the communications front, we also do not have any sense there is much Committee consensus yet on the thresholds that are considered critical to the efficacy of the forward guidance and balance sheet tools when policy is constrained at the Zero Lower Bound. The threshold discussions have in fact barely started, and seem to be more complicated than a first glance would suggest. That is why, for instance, both the calendar-contingent threshold as well as the clearly more favored outcome-based are still being cited in recent FOMC Minutes.

** The outcomes-based thresholds, for instance, can’t necessarily be constructed in the same “either/or” fashion as 2012’s Numerical Thresholds: the open-ended QE 3 was built on the guidance that rates would stay on hold until headline unemployment reached 6.7% or inflation breached a safeguard 2.5%. But that would not work when the Phillips Curve trade-off between unemployment and inflation has been discarded. In any case, Committee members seem to prize the clarity of simplicity in the future thresholds, or threshold, and above all, that will offer maximum flexibility.

** And finally, while we could have listed this first even though it may prove to be so painfully obvious we opted to bury the point here at the end, it is hard not to acknowledge that not a single Committee member, including Powell himself, has offered any hints that such a shift to a more accommodative policy stance would be imminent. District Presidents have in fact all stressed the lack of urgency on the transition to accommodation. Both Vice Chair Richard Clarida and Board Governor Lael Brainard did caution they would not “pre-judge” the outcome to the September meeting, but to conclude they are holding out for a Board-driven push from their back foot to ram a QE accommodation into September seems to us to be a stretch.

** Sometimes Fed officials have to be taken at their word, and as there is still a fairly widespread expectation or hope that September will see the start to the shift to even greater accommodation it may mean Fed officials will have to double down on their messaging before the pre-meeting black out sets in this weekend.

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