How Much Will The Fed Taper, And What Will It Do To Offset The Effect?

Apr. 11, 2014 3:31 PM ET7 Comments
Colin Lloyd profile picture
Colin Lloyd
673 Followers

Summary

  • The Fed is tapering despite below target inflation – will it continue?
  • What policies will offset this de facto tightening?
  • How will bonds and stocks react longer term?

The Federal Reserve began tapering in January and at its most recent meeting signaled that it will only purchasing $55bln of eligible securities per month. These securities consist of $30bln of U.S. Treasuries and $25bln of RMBS. The Fed has justified this reduction in purchases on the grounds that the U.S. economy is steadily recovering, unemployment declining, and inflationary pressure is not evident -- the PCE Index is at 1.25% vs. a target of 2%. The minutes of the most recent FOMC meeting revealed that the unemployment target of 6.5% is no longer to be regarded as a catalyst for potential rate increases. Here are a couple of extracts from the March 2014 minutes:

With respect to forward guidance about the federal funds rate, all members judged that, as the unemployment rate was likely to fall below 6.5% before long, it was appropriate to replace the existing quantitative thresholds at this meeting,..

...Almost all members judged that the new language should be qualitative in nature and should indicate that, in determining how long to maintain the current 0 to 0.25% target range for the federal funds rate, the Committee would assess progress, both realized and expected, toward its objectives of maximum employment and 2% inflation.

Will the Tapering Continue?

I believe the Fed has no option except to taper. Its balance sheet has expanded dramatically over the last few years due to quantitative easing policy. However, as the chart below from Greg Weldon at Weldon Online shows, there is an uncanny correlation between QE and stock prices:

Source: Weldononline.com.

The flow into stocks is partly justified by the improved earnings of corporations. However, this is the result of low capital expenditure due to uncertainty about economic prospects since the 2008 crisis. Low or negative real interest rates act as a deterrent to

This article was written by

Colin Lloyd profile picture
673 Followers
About me My name is Colin Lloyd. I have been following the ebb and flow of financial markets for more than 30 years. I have worked for brokers and asset managers in commodities, money markets, capital markets, equities and foreign exchange. My interests My interests include, but are not confined too, geopolitics, central banking, energy policy, regulatory change, demographics, technology and capital flows. About this news letter I started writing this news letter to provide longer term macroeconomic commentary and guidance for financial market investors. I hope it will provide some new insights and provoke debate.

Recommended For You

Comments (7)

To ensure this doesn’t happen in the future, please enable Javascript and cookies in your browser.
Is this happening to you frequently? Please report it on our feedback forum.
If you have an ad-blocker enabled you may be blocked from proceeding. Please disable your ad-blocker and refresh.