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US: FOMC: Very little change to the statement

Thu, Nov 5 2009, 02:26 GMT
by Peter Possing Andersen, Signe Roed-Frederiksen

Danske Bank A/S

• FOMC decides unanimously to leave rates unchanged.
• Minor reduction in purchases of agency bonds does not signal policy shift.
• Very few changes to growth and inflation outlook.
• The committee still expects to keep rates exceptionally low for an extended period.
• No change to our forecast. No hikes before Q4 next year.

Details
With Fed officials providing new economic projections to the FOMC and the Q4 version of the Senior Loan Officer Survey probably to hand, the meeting will have seen few changes in the overall assessment of the state of the economy and its outlook. 
The only minor change to the assessment of current economic activity was a note stating that housing activity had increased. Financial market conditions were described as unchanged and the language on spending and jobs remained downbeat. Credit conditions were characterized as tight.

On the growth outlook, the committee continues to expect the (level of) economic activity to remain weak for a time. Growth will strengthen but economic activity will only gradually return to full capacity utilisation. Indeed the language used suggests few if any changes to economic growth projections.

As regards inflation, the statement made no changes. The committee reiterates that it expects inflation to remain subdued for a longer period due to the huge resource slack.
In the forward looking paragraph the phrase on keeping exceptionally low levels of the federal funds rate for an extended period was retained, but this is now contingent on economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations. This change was probably employed to clarify the conditions under which a change in the ‘extended language’ should be expected.

It is worth noting that all three paragraphs in the statement (growth, inflation and bias) refer to the low rate of resource utilization (i.e. the large output and employment gap), highlighting the Fed’s concern regard the enormous amount of slack in the economy. Consequently, given that concern it will take more than just a few quarters of solid growth to start a tightening cycle.
Scheduled purchases of Agency bonds were reduced by USD25bn due to limited supply. MBS purchase programs were left unchanged. Significantly, this is not a signal that the Fed is starting to scale down QE but simply a technical issue specifically connected with the Agency market.

Outlook & Assessment:

Tonight’s statement provides no reason for us to alter our forecast that the Fed will keep rates unchanged over a long period.

We do not expect any hikes to occur before Q4 next year. Even given the outlook involving relatively solid US growth rates, the slack in the economy will remain historically substantial for a long time. The risk of core inflation reaching zero next year will be non-negligible, which in turn will make the Fed even more wary of hiking. Further, it will probably spend some time assessing the impact on mortgage markets of ending its purchases before beginning to hike rates.

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Published on  Thu, Nov 5 2009, 02:29 GMT