- Downside risks to recovery have diminished “a bit further”
- Labor market weakness remains a major concern
- Target rate will remain at 0%-0.25% for an extended period
FOMC participants’ economic outlook remains unchanged from the previous meeting. They believe that recent economic data is, “in line with the expectations for moderate growth and subdued inflation in 2010 that they held when the Committee met in mid-December.” Furthermore, financial conditions continue to support economic growth. In general, the committee agreed that downside risks to the outlook have “diminished a bit further.”
Positive outtakes from the discussion are on the demand side. Consumer spending increased modestly, but retailers reported that consumers still remain price sensitive. Furthermore, the committee concluded that spending on high-tech equipment exhibited solid growth in recent months, primarily due to replacement and cost-saving investment. Nevertheless, risks to business spending persist due to excess capacity and uncertainty in future sales prospects and regulation/tax policies.
Members cited labor market weakness and uncertainty as one of the major risks and concerns for the future outlook. Business contacts continued to report that they would hire cautiously and meet near-term demand by increasing productivity of existing workers. However, the committee noted that the rise in employment of temporary workers could foreshadow a broader increase in job growth, as historical experience has illustrated.
The committee expects core inflation to remain subdued due to restrained wage growth, falling unit labor costs and reports from business contacts that pricing power remains limited. However, members debated the degree of economic slack. One argument is that the extension of unemployment benefits may have inflated the unemployment rate by keeping people in the labor force for longer, thus overstating the amount of resource underutilization. Furthermore, there was discussion regarding how the output gap could be affected by reallocation of labor across sectors and sustained productivity gains.
Given the economic assessment, the committee maintained the target fed funds rate at 0%-0.25% and did not make any changes to its asset purchase program.
Bottom-line: The FOMC’s economic outlook is in line with our baseline scenario of moderate economic growth and low but positive inflation in 2010. January’s meeting focused on the risks and uncertainties that remain in the economy. The committee will continue to monitor these challenges in order to determine the speed in which they implement the exit strategy. Given the degree of slack that remains in the economy, we continue to maintain our forecast that the target federal funds rate will remain low for an extended period of time.
