- Fed Chairman Jerome Powell is now saying that tapering may need to be accelerated and Treasury Secretary Yellen is now saying that the Fed needs to move forward on tapering.
- But, other than vague utterances, Mr. Powell seems to be reluctant to define any policy direction that he might be held accountable for in the future.
- Financial markets are signaling that the Fed will raise short-term rates in the near future but will be faced with slower economic growth further out due to the coronavirus.
- Yes, there is a lot of uncertainty around, but Mr. Powell has got to step up and provide markets and businesses with some insight into what he is thinking about doing going forward.
Up until just recently, Jerome Powell, Fed Chair, has been adamant about the future of inflation in the United States.
The rise in the U.S. rate of inflation was just temporary or transitory. After a few months, inflation rates would drop.
This week Mr. Powell indicated that tapering should be more substantial than what he had earlier been supporting.
Janet Yellen, the Secretary of the Treasury and the former Fed Chair before Mr. Powell, stated that the use of "transitory" should be transitory as we move through the end of 2021.
It seems as if the Biden administration is beginning to get its "story" straight concerning the future of the U.S. economy.
Still, there are many analysts and people in Congress that are unhappy with Mr. Powell and say that he should not be approved to continue in his current position.
We close the year with growing discontent concerning the direction of monetary policy and the direction of the economic programs being advanced by the Biden administration.
The bond markets are not presenting us with a pretty picture for the future.
Flattening Of The Yield Curve
Over the past week or so, the term structure of interest rates have become flatter.
The yield on shorter-term government notes have risen. For example, the yield on the 2-year U.S. Treasury note has risen from about 0.50 percent on November 17 to close at more than 0.62 percent on Thursday.
The yields on longer-term governments have actually fallen.
The yield on the 5-year note fell from about 1.23 percent on November 17 to close at 1.20 percent on Thursday.
The yield on the 10-year note fell from about 1.60 percent to 1.44 percent.
The yield on the 30-year fell from just under 2.00 percent to 1.75 percent.
Two factors seem to be on investors' minds.
First, there is the change in Mr. Powell's picture of future inflation and his feeling about the need to accelerate the tapering plan.
Second, there is the picture of the new strain of the coronavirus and how it might cause an additional slowdown in economic growth accompanied by further dislocations related to supply chains and employment reaction.
Thus, the flattening of the yield curve.
And, coming from Governor Randal Quarles, who is leaving the Federal Reserve in January 2022, the parting shot that maybe, given the new statistics being released, the Fed should begin, at an earlier date, to raise the Fed's policy rate of interest, the Federal Funds rate.
Whoa, it seems as if we quite a turnaround coming here. Stay tuned.
Federal Reserve Balance Sheet
The Federal Reserve has been acquiring $120.0 billion in securities every month throughout 2021.
In the October/November time frame, from the banking week ending September 29 to the banking week ending December 1, two months' time, the Fed purchased, outright, $237.3 billion in new securities for its portfolio.
So, it appears that tapering did not begin in November.
During this two-month period, the Reserve Balances commercial banks hold with Federal Reserve Banks, a proxy for the excess reserves that remain in the banking system rose by $171.2 billion.
As is obvious from the chart, the rise in these balances did not take place at a steady pace.
The Federal Reserve, obviously, had to manage its actions to take account of what was happening to its policy rate of interest, the Federal Funds rate.
The actions of the Fed, during this time, kept the effective Federal Funds rate constant at 0.08 percent, the level it had been maintaining since September 1, 2021.
Over the past few weeks, the Federal Reserve has actually not done very much with its balance sheet.
The major changes have been in the securities portfolio, reflecting the monthly purchase plan.
Where Do We Go From Here?
So, the big question is where does the Federal Reserve go from here?
Mr. Powell is now saying that tapering may need to be accelerated.
Mr. Quarles is now saying that the Fed needs to move faster in raising its policy rate of interest.
The bond market is now saying that short-term interest should rise for now, but the threat of the new strain of the coronavirus may be creating conditions that will result in slower economic growth.
And, the world seems to be facing a situation not too different from that being experienced by the Unites States.
This is even reflected in the interest rates structures generated in other countries.
Could it be that the other parts of the world could be in a similar place to the one the United States finds itself in?
In recent months it has been the story that the central banks in the U.K. and the EU felt that they were in a place that was different from the one being experienced by the U.S. and, therefore, they followed different monetary paths from the United States.
This resulted in the value of the dollar rising against the pound and the Euro.
It could be the case that, now, all the central banks will be moving in a similar direction.
Ball Is In Mr. Powell's Court
It is still, I believe, up to Mr. Powell to give us a new picture of what the Federal Reserve is going to be doing this coming year.
I know that we are in a world of radical uncertainty at this time and that Mr. Powell wants to be careful about what he commits to.
But, he has got to commit to something and the banking community deserves some insight in terms of where the Fed stands and the investment community deserves no less.
The Fed, over the past eighteen months or so, has created enough dislocations in the financial markets and the economy to keep it busy for several years.
Hopefully, Mr. Powell will not add to his legacy by creating even more dislocations going forward.
As I have argued before, it seems to me that one of Mr. Powell's objectives is to constantly err on the side of monetary ease so as to avoid creating a financial disturbance. In doing so, he has caused many dislocations in many areas of the banking system and the economy, that will have to be worked out over time.
Right now we need some real leadership to produce a policy that is right for the current times. Where is Paul Volcker when you need him?
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