Fresh uncertainty means Fed unlikely to pull back stimulus
Back in May and June, US Federal Reserve chairman Ben Bernanke played a trick on markets by sketching out a timetable for reducing the central bank’s US$85 billion a month of bond buying. Investors recoiled in horror and bond yields surged.
This week, though, they are in for a treat.
The Fed’s policymaking committee ends a two-day meeting on Wednesday, and the chances are vanishingly small that it will start to dial down the monetary stimulus right away.
The recent government shutdown in Washington and last-gasp deal to raise the federal debt ceiling have simply created too much economic uncertainty.
As a result, the usefulness of September figures on industrial output, retail sales and consumer prices as well as the Institute of Supply Management’s October manufacturing survey will be limited.
Apart from a dearth of “clean” data for the Fed to analyse, the labour market’s lacklustre performance has convinced many economists that the Fed will delay “tapering” until next year.
What more could liquidity-driven markets ask for?
Jamie Dannhauser of Lombard Street Research, a London consultancy, expects the Fed to start curtailing its bond buying in the first quarter of next year, by which time Bernanke will have been succeeded by his dovish deputy, Janet Yellen, and to end asset purchases by the end of next year.
Dannhauser is bullish on the US economy, not least because stiff fiscal headwinds will ease next year.
But he said the Fed was likely to maintain very significant monetary stimulus until growth gets closer to precrisis trends. Thus a rise in short-term interest rates was unlikely until well into 2015.
“Tapering and even an end to asset purchases are very different from a withdrawal of stimulus,” Dannhauser said.
“The US economy still has a very big hole that needs to be filled, and people like Bernanke and Yellen are very acutely aware of this point.”
Many economists, while agreeing that an emergency policy response was needed in 2008, worry that since the 1987 stock market crash central bankers and governments have been too quick to ease in downturns and too slow to tighten in recoveries.
Treats are nice, but too much chocolate can make you ill.
When he was chief economist at the Bank for International Settlements, Bill White issued a series of prescient precrisis warnings of bubbles and imbalances that were building up in the global economy. He was politely ignored.
White worries that policymakers are not learning the lessons. It will be harder to return to strong, sustainable growth, because fiscal and monetary stimulus are storing up medium-term difficulties, he told a London audience last week.
“Not least of them is that the very easy monetary conditions that we’ve seen since the crisis have basically impeded the process of deleveraging,” White said.
In the Group of 20 leading economies, government, household and corporate debt is now 30 per cent greater than it was before the crisis, he said, citing BIS figures.
“We haven’t actually dealt yet with the problems of the advanced market economies, and in addition, with the crisis having spread to the emerging market economies, we now have a problem that is bigger than before,” White said.
Central banks are certainly sending out dovish signals.
The Bank of Japan is intent on doubling its monetary base in two years. The Bank of England, playing down the risk of moral hazard, eased its liquidity provision rules last week. The Bank of Canada surprised markets by signalling it would not raise interest rates any time soon.
“And while the People’s Bank of China has recently tightened liquidity, the extensive influence of Fed policy on global liquidity cycles suggests easy conditions will prevail,” Gustavo Reis of Bank of America Merrill Lynch said in a note. “Markets are extending their run on this supportive policy outlook.”
The European Central Bank has an easing bias, too, and figures from the euro zone are likely to confirm why the bank expects its main policy rate to stay low for an extended period.
Unemployment was probably unchanged last month at a near-record 12 per cent, according to economists, who expect that inflation in the year to this month held steady at 1.1 per cent.