The Federal Reserve Surprises

The Federal Reserve Board of Governors surprised almost all Fed watchers when it decided at its Sept. 18 meeting not to start tapering with its $85 billion bond-buying program. The program consists of the Fed buying $45 million in 10-Year Treasuries and $40 in mortgage-backed securities.

In explaining why it chose not to start tapering, the Fed cited continued weakness of the overall economy. They pointed to a few concerns in the current economy; employment, inflation, a recent spike in rates as well as the government sequester.
The unemployment rate remains elevated. The labor participation rate is low. This means that there are many workers who are not looking for work, which means the actual unemployment rate is higher, perhaps significantly higher than what is being gauged and reported these days by the Department of Labor.

Other worrisome factors that made influenced the Fed’s decision included pullback of government investments because of the ongoing sequester and other cutbacks. The uncertainty of the raising of the debt ceiling and the possible government shut down also part of the concerns. These items are ultimately a drag on the economy.

The inflation rate, or lack thereof, was also cited. The Fed has called for a steady 2-percent rate of inflation to one of the foundations for a healthy economy. Currently, the inflation rate is 1.3 percent. This is well below the target. The Fed is concerned about possible disinflation.

In chairman Ben Bernanke’s press conference, he showed charts by the Fed that predicted that the 2-percent inflation target would not be reached until 2016. The Chair reiterated that the Fed would not raise the Fed Funds Rate until the goals are archived. Taken at his word, the Fed is not likely to raise the key Fed Funds rate, which is currently at 0 to ¼ percent, until late 2015 or early 2016.

In explaining its accommodative monetary policy, the Fed states: “It will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent.”

The Fed also expressed concern about the recent increases in mortgage interest rates. The Fed is worried the recent spike in rates is hurting the economic recovery.

For the time being, the Fed will be very accommodative in an effort to keep the overall economy moving forward. Expect the bond markets and mortgages to readjust yields lower in order to reflect the Fed’s current outlook.

Bill Starrels lives in Georgetown where he works as a mortgage loan officer. He can be reached at 703-625-7355 or bill.starrels@gmail.com