By Steven K. Beckner
WASHINGTON (MNI) – When Federal Reserve policymakers meet over the next two
days to revise their forecasts and decide how much monetary stimulus to provide
in the new year, the latest employment report is unlikely to have a major
bearing on the outcome.
Although the November job figures were better than expected, the ostensible
improvement is unlikely to be sufficient to change the prevailing mood of
dissatisfaction with the course of the economy and labor market conditions among
most members of the Fed’s policymaking Federal Open Market Committee.
Last month’s 146,000 non-farm payroll gain beat expectations, but was
accompanied by a 49,000 downward revision to prior months that put the average
gain for the last three months at less than 139,000. Officials such as Chicago
Federal Reserve Bank President Charles Evans, who will be an FOMC voter next
year, want to see at least 200,000 per month for a sustained period.
What’s more, the high-profile drop in the unemployment rate from 7.9% to
7.7% came about largely because 350,000 people left the labor force.
It is very doubtful whether the November numbers came close to meeting the
standard of “substantial” improvement in labor market conditions the FOMC set
for discontinuing its third round of large-scale asset purchases or
“quantitative easing” at its September and October meetings.
The employment report’s sheen, such as it may have been, was surely further
diminished by a dramatic drop in the University of Michigan’s preliminary
December reading on consumer sentiment from 82.7 to 74.5. When combined with
inadequate job and income growth, that dismal news boded ill for vital consumer
spending and in turn GDP growth.
MNI reported on Nov. 27 that there was “substantial sentiment” for
continuing the current high level of asset purchases, and there is every
indication that that remains the case.
The FOMC, after going through its quarterly exercise of compiling
three-year and longer term economic projections, as well as federal funds rate
forecasts, has a momentous monetary policy decision to make.
The Fed’s Maturity Extension Program, better known as “Operation Twist,”
under which the Fed has been selling $45 billion per month of short-term
Treasury securities and buying an equal amount of long-term Treasuries, expires
on Dec. 31. If nothing is done by the FOMC, aggregate Fed asset purchases will
shrink from $85 billion per month to $40 billion per month — the amount of
mortgage-backed securities the Fed is buying under “QE3.”
That raises the spectre, in the minds of many officials, of a sudden
diminution in the amount of monetary policy support for a still-struggling
economy, if not a spike in rates. The unresolved budgetary stand-off — the
so-called “fiscal cliff” — adds to the stakes.
The questions facing the FOMC are whether to replace the Twist purchases in
whole or in part and what kind of assets to buy going forward.
It seems almost certain that the FOMC will convert the Twist purchases,
financed by short-term sales, into outright purchases, financed by the creation
of new money — in effect an enlargement of QE3. Expectations are running very
high that the total amount of $85 billion will be kept the same, and there is a
lot of support for doing so.
Less certain is the composition of an enlarged QE3.
Some will argue for not replacing Twist, at least not fully. For example,
St. Louis Federal Reserve Bank President James Bullard, who will also be an FOMC
voter next year, said last Monday he favors replacing only $25 billion of the
$45 billion expiring Twist Treasury bond purchases.
Bullard contended that the $65 billion total QE3 which would result would
maintain the current level of monetary accommodation, since purchases financed
by new reserves are more stimulative than purchases financed by sales of
short-term Treasuries. He also argued against increasing the amount of MBS
purchases.
But Boston Fed President Eric Rosengren, who will join Bullard and Evans in
the voting ranks next year, recently said there is “a strong case” for
continuing to buy at least $85 billion of bonds per month and expressed a strong
preference for buying more MBS. Others are known to share that view.
After acknowledging potential benefits, particularly for corporations, from
continuing to buy Treasury bonds, Fed Governor Jeremy Stein said MBS purchases
would have “a more pronounced effect” on the mortgage market and have “more
kick” than Treasury purchases.
“I suspect that mortgage purchases may confer more macroeconomic stimulus
dollar-for-dollar than Treasury purchases,” Stein said.
Conceivably then, while keeping the overall size of purchases the same, the
FOMC could decide to change the mix of Treasury and MBS purchases, weighting
them more heavily toward MBS.
All will be explained by Fed Chairman Ben Bernanke in a closely watched
Wednesday afternoon press conference after the FOMC has already announced its
policy decision and released its new Summary of Economic Projections.
–MNI Washington Bureau; tel: +1 202-371-2121; email: sbeckner@mni-news.com
[TOPICS: MMUFE$,M$U$$$,M$$BR$]
