FOMC: Monetary Easing on Fast Track
Overview:
Following a two-day policy meeting, the Federal Reserve Committee(FOMC) decided last night to cut the fed funds rate by a further 50bp to 3%. This move was widely expected by the markets and among analysts. With yesterday's action, the full amount of easing over the past eight days is adding up to a historic high of 125bp. This leaves little doubt that the Fed has put monetary easing on a fast track.
The decision had one dissenter, Richard Fisher from Dallas Fed, who preferred no change. However, disagreement about the decision was probably not widespread, as 9 out of 12 local Governors approved a 50bp cut in the discount rate to 3.5%. Generally, the statement was little changed compared to last Tuesday, and signals a bias towards further easing.
Details:
The FOMC remains concerned on the growth outlook. It should be noted this concern seems present on two levels. The first is related directly to conditions in financial markets, where the committee notes that 'tighter credit' and 'considerable stress' is adding a restraint on economic growth. This is probably the factor that forced the Fed to act inter-meeting last week in a response to plunging equity markets. The second concern is related to incoming macro data, with the committee noting downside risks from the 'deepening' correction in the housing market and some 'softening in the labour market'.
However, the language on growth concerns was eased a bit in the forward looking part of the statement by removing the word "appreciable" from the sentence "...downside risks to growth remains". However, in light of 125bp easing in eight days, this actually seems like a rather minimal downscaling of the rhetoric. Combined with the final wording that "The Committee will continue to assess the effects of financial and other developments on economic prospects and will act in a timely manner as needed to address those risks", the committee is signalling a continued bias towards further easing.
Assessment & Outlook:
Comparing the recent scale and speed of US monetary policy easing with incoming economic data, there is no doubt that the central bank is ahead of the game compared to that which has been usual. We perceive this as a signal that the Fed is concerned about systemic risks in the financial sector and is operating with a very negative risk-scenario for the economy - a scenario which the central bank is willing to insure strongly against.
With no immediate relief in sight for the problems surrounding the financial sector and more slowing ahead in economic data throughout H1, we expect the FOMC to take full insurance against a recession. This will most likely involve a real policy rate at close to zero corresponding to a Fed funds rate in the 2-2½% range. As recent behaviour suggests, the central bank rather prefers doing too much than too little in the current situation. Hence, the FOMC is expected to settle in the lower end of this range easing to a terminal rate of 2% as early as June.
Current statement:
The Federal Open Market Committee decided today to lower its target for the federal funds rate 50 basis points to three percent.
Financial markets remain under considerable stress, and credit has tightened further for some businesses and households. Moreover, recent information indicates a deepening of the housing contraction as well as some softening in labour markets.
The Committee expects inflation to moderate in the coming quarters, but it will be necessary to continue to monitor inflation developments carefully.
Today's policy action, combined with those taken earlier, should help to promote moderate growth over time and to mitigate the risks to economic activity. However, downside risks to growth remain. The Committee will continue to assess the effects of financial and other developments on economic prospects, and will act in a timely manner as needed to address those risks.
Previous statement (as of January 22)
The Federal Open Market Committee has decided to lower its target for the federal funds rate by 75 basis points to 3-1/2 percent.
The Committee took this action in view of a weakening of the economic outlook and increasing downside risks to growth. While strains in short term funding markets have eased somewhat, broader financial market conditions have continued to deteriorate and credit has tightened further for some businesses and households. Moreover, incoming information indicates a deepening of the housing contraction as well as some softening in labour markets.
The Committee expects inflation to moderate in the coming quarters, but it will be necessary to continue to monitor inflation developments carefully.
Appreciable downside risks to growth remain. The Committee will continue to assess the effects of financial and other developments on economic prospects and will act in a timely manner as needed to address those risks.
Danske Bank
http://www.danskebank.com/danskeresearch
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