Rates Up 1/4 as Expected, Accommodative Gone, Measured Stays But is Reworded

The Fed has changed the language as many, but not all, expected. The press release after today's FOMC meeting drops the word accommodative in reference to policy, but the statement "further measured policy firming is likely" remains, though this is a change in wording from the previous statement allowing for more flexibility in response to changing conditions

My view prior to today's meeting was that if the Fed left both the measured and accommodative language in the press release, that meant they were willing to let financial markets lock into the expectation of one or two more rate increases. The implication would be that there was very little incoming data could do to alter the Fed's intent to tighten further, though of course if the situation changed dramatically they would reconsider.

By changing the language as they have, the Fed is signaling that further rate increases are very likely, but not certain. Strong growth and inflation worries showing up in incoming data will continue to bring about further tightening, but any signal that growth is abating or that inflation is firmly under control will give the Fed reason to pause and reconsider whether further increases are warranted. For now, they see solid growth, low core inflation, and long-term expectations that are contained and feel that further increases are likely necessary to balance the risks of price stability and falling growth. That is, currently they see the risk of inflation as higher than the risk of falling growth and feel a further rate hike is needed to bring these risks into balance. It will be interesting to see to what degree FedSpeak is used to set expectations as data arrive. In the following, the equivalent passages from the November 1 press release after the last FOMC meeting are in italics [Today's release, November 1 release]:

For immediate release

The Federal Open Market Committee decided today to raise its target for the federal funds rate by 25 basis points to 4-1/4 percent.

The Federal Open Market Committee decided today to raise its target for the federal funds rate by 25 basis points to 4 percent.

Despite elevated energy prices and hurricane-related disruptions, the expansion in economic activity appears solid. Core inflation has stayed relatively low in recent months and longer-term inflation expectations remain contained. Nevertheless, possible increases in resource utilization as well as elevated energy prices have the potential to add to inflation pressures.

Elevated energy prices and hurricane-related disruptions in economic activity have temporarily depressed output and employment. However, monetary policy accommodation, coupled with robust underlying growth in productivity, is providing ongoing support to economic activity that will likely be augmented by planned rebuilding in the hurricane-affected areas. The cumulative rise in energy and other costs has the potential to add to inflation pressures; however, core inflation has been relatively low in recent months and longer-term inflation expectations remain contained.

The Committee judges that some further measured policy firming is likely to be needed to keep the risks to the attainment of both sustainable economic growth and price stability roughly in balance. In any event, the Committee will respond to changes in economic prospects as needed to foster these objectives.

The Committee perceives that, with appropriate monetary policy action, the upside and downside risks to the attainment of both sustainable growth and price stability should be kept roughly equal. With underlying inflation expected to be contained, the Committee believes that policy accommodation can be removed at a pace that is likely to be measured. Nonetheless, the Committee will respond to changes in economic prospects as needed to fulfill its obligation to maintain price stability.

[Note: no substantive changes] Voting for the FOMC monetary policy action were: Alan Greenspan, Chairman; Timothy F. Geithner, Vice Chairman; Susan S. Bies; Roger W. Ferguson, Jr.; Richard W. Fisher; Donald L. Kohn; Michael H. Moskow; Mark W. Olson; Anthony M. Santomero; and Gary H. Stern.

Voting for the FOMC monetary policy action were: Alan Greenspan, Chairman; Timothy F. Geithner, Vice Chairman; Susan S. Bies; Roger W. Ferguson, Jr.; Richard W. Fisher; Donald L. Kohn; Michael H. Moskow; Mark W. Olson; Anthony M. Santomero; and Gary H. Stern.

[Note: no substantive changes] In a related action, the Board of Governors unanimously approved a 25-basis point increase in the discount rate to 5-1/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, Minneapolis, Kansas City, Dallas, and San Francisco.

In a related action, the Board of Governors unanimously approved a 25-basis point increase in the discount rate to 5 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, Minneapolis, Kansas City, Dallas, and San Francisco.

For more: NY Times, Washington Post, Bloomberg, Wall Street Journal, CNN/Money, Fed Breaks Pattern, Signals Replace Promises: John M. Berry, Bloomberg, Fed Wraps Holiday Statement in Shade of Neutral: Caroline Baum, Bloomberg

Blogs: William Polley, The Big Picture, The Big Picture: Economists React in WSJ (cites this blog)

Comments

[STS]

Given Trichet's difficulty in coaxing a rate hike out of the ECB plus today's FOMC statement, it seems we may be in for a world-wide pause in policy rates until there is a clearer picture of inflation trends.

It's a bit like watching a sumo-wrestling match between massively deflationary labor arbitrage and massively inflationary credit bubbles. Which irresistable force will prove the more irresistable?

[Tom M]

Eenie Weenie Chili Beanie, the spirits are about to speak...

[ks]

Fed policy - drive the truck straight ahead at a constant (measured) speed until it runs into a tree. Then announce you should have turned.

[save_the_rustbelt]

So the Fed is joining in the Bush administration's crusade to destroy the American middle class.

Bad times will be come worse times.

[nate]

Your graph on historical real interest rates was relevant. Real rates (prior to the inflation spike in the late 1970s) were a lot more negative than during recent history. Thus, there was a potential causal factor in the inflation spike during the late 1970s-early 1980s that is not present today to the same extent.

[Spectator]

This is as close to a bell ringing as you will get, to exit the dollar.

An Ecomonist magazine quote from some time ago sums it up nicely: "Bush's strong dollar policy is to maintain a pool of fools buying all the way to the bottom."

Except the Fed is the real culprit here. Wouldn't be prudent to blame Bush for something he does not understand. The Fed under "printing press" Bernanke will have no credibility. It will be a sight when Fed talk stops working, spectacular fashion.