Here is the link (FOMC Statement). The text of the statement is as follows:
The Federal Open Market Committee decided today to keep its target for the federal funds rate at 5-1/4 percent.
Recent indicators have been mixed and the adjustment in the housing sector is ongoing. Nevertheless, the economy seems likely to continue to expand at a moderate pace over coming quarters.
Recent readings on core inflation have been somewhat elevated. Although inflation pressures seem likely to moderate over time, the high level of resource utilization has the potential to sustain those pressures.
In these circumstances, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected. Future policy adjustments will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.
A lot of folks would probably say that the part about "the adjustment to the housing sector is ongoing" is a bit of an understatement. Be that as it may, the major (and it is major) difference between this statement and previous ones is the last paragraph. Repeating for emphasis:
In these circumstances, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected.
Also notable is that the very next sentence leaves out a word that was in the last statement: "firming"
The extent and timing of any additional firming that may be needed to address these risksFuture policy adjustments will depend on the evolution of the outlook for both inflation and economic growth, as implied by incoming information.
(Old language struck-through)
Of course, long time readers know that inflation has been my concern for most of the latter part of the Fed's tightening cycle and the first few months after they stopped raising rates. At the same time, the other wing of the blogosphere has been more concerned about the potential for slowdown and the possibility that rates will be cut.
So is it more hawkish that they called attention to the fact that their predominant concern is that inflation will fail to moderate. Does calling attention to this concern imply that they stand ready to raise rates if inflation stays stuck at its current level (or worse, trends back up)?
Or does the removal of the word "firming" mean that rates hikes are on the back burner? Is this to say that yes, they are concerned about inflation, but they don't anticipate acting on that concern any time soon?
The markets have spoken. (Reuters)
NEW YORK (Reuters) - Stocks rallied on Wednesday, driving each of the major indexes up 1 percent or more, after the Federal Reserve left interest rates unchanged and said the economy seemed likely to continue expanding at a moderate pace.
...
The Fed said it remained concerned about inflation but left out a reference to further "firming" of monetary policy that was contained in its previous statement. The Fed noted difficulties in the housing sector but said the economy is likely to keep expanding nevertheless.
"The markets obviously are disappointed that there is no sign of a Fed easing in the immediate future," said Scott Fullman, director of investment strategy at I.A. Englander & Co., an institutional broker-dealer in New York. "However, the fact that the economy continues to grow and that the Fed is not concerned about contraction should be favorable for stocks."
Based on this it would seem that the market was all excited about the removal of the word "firming." But I think they may be underestimating the statement about inflation being the predominant policy concern. What you are seeing here is a Fed that desperately wants to avoid painting itself into a corner. (Measured pace, anyone?) This statement reflects a slightly more flexible position than the previous one which really wasn't much changed from when they stopped raising rates in the summer. They are recognizing, correctly in my opinion, that the timing and now even the direction of any future change is more of a toss up than it was last fall. In a sense, it is a little bit of a surprise to me that there was not a further rate hike after the pause. Some (e.g. Richmond's Mr. Lacker) would have wanted one at the time. The statement was tilted in that direction.
While that is still possible, the date of any further firming (or loosening) always seems to be a bit over the horizon. Anyone want to put money on a rate hike or rate cut at the next meeting? No, the odds are that in May it will still be status quo. Recognizing this, the Fed is quite sensibly giving itself a little wiggle room. The way I see it, this statement makes it marginally easier (i.e. less of a hit to their credibility) to cut rates if they are forced to without really affecting their ability to raise rates should that become necessary. If that is the thinking behind the change, it seems the sensible thing to do. I think this does set up the possibility for a move on rates in the 2nd half of 2007. The direction remains to be seen.
UPDATE: Mark Thoma comments with the detailed sentence-by-sentence breakdown of the changes. The NY Times' Edmund Andrews gets a good quote.
“We can’t fathom how anyone could interpret the comments as a fundamental change in Fed thinking toward a neutral stance,” wrote Bernard Baumohl, managing director of the Economic Outlook Group, a forecasting firm in Princeton Junction, N.J.
A more likely interpretation is that Ben S. Bernanke, the Fed chairman, recognized signs of trouble in the housing market and wanted to give the Fed more room to maneuver.
Bingo. They bought themselves some wiggle room without sacrificing too much credibility. This is not a setup for a summer rate cut but a recognition that the direction of the next change, whenever that may be, is less certain than it was 6 months ago. A lot has changed. The only thing that I think it is safe to say is that (barring disaster) the next move of any kind is far enough in the future that we can't even see clearly which way it will go. At times like this, you want wiggle room.
Kash finds a Bloomberg report that emphasizes the market's rather optimistic take:
Bonds and stocks rallied as some traders read the change as a signal that the Fed will consider cutting rates by the June policy meeting. Other economists said the new wording doesn't necessarily mean a reduction is imminent.
"It does not appear the committee is prepared to consider easing; rather, they are ruling out tightening," said Chris Low, chief economist at FTN Financial in New York. "The FOMC concedes a decidedly gloomier economic picture in March than in January, but continues to worry" about inflation.
Ruling out tightening? Ah, no. (See above.) Kash adds his comments,
I think that Chris Low's reading at the end of this excerpt is spot on: today's statement may indicate that a rate hike is not in the offing, but does nothing to indicate a rate cut any time soon. That's why I think the markets' exuberant reaction (or should that be "irrationally exuberant"?) today will likely be largely undone tomorrow, as a more sober assessment concludes that since we already knew that a rate hike was not likely, this was not really news.
At first I also thought that tomorrow the gains of today would be reversed. I mean, that would be the normal thing to expect. But the markets have displayed something of a disconnection from reality in the last few months when it comes to understanding the Fed's position. Am I to expect that they will figure it out tonight? Anything is possible. And it is fun to sit here the in the evening and predict where the market will go tomorrow, especially if there is a logical basis for that prediction. But I would not be too surprised if the market takes a few days to chew this over.
And I do think that this statement was news, just not in the way that many on Wall Street first thought.
As they say, save the tape, we may want to replay this later.
