Fed Chair Janet Yellen
(photo courtesy U.S. Federal Reserve)
FOMC Meets
- Federal Reserve's FOMC met on Wednesday
- Janet Yellen was at the Helm as Chairperson for the first time
- FED decided to remove hard target of 6.5% unemployment from guidance
- 3 words in Yellen's post-meeting commentary sent markets swooning
- Market was likely over-reacting
Federal Open Market Committee Meeting
The Federal Reserve's (FED) Federal Open Market Committee meets once every 6 weeks or so to review economic data and set Fed policy regarding open market operations (the selling and buying of U.S. bonds). On Wednesday, the FOMC had one of it's regular meetings followed by a press conference by the Fed Chair. This particular meeting was Janet Yellen's first meeting as Chair of the Federal Reserve Board of Governors.
The FOMC issues a written statement after every meeting, but in the last few years, the Fed Chair has held press conferences after every other meeting. You can read the FOMC statement here. One key change made with this meeting's forward guidance is that the FED is no-longer using a 6.5% unemployment rate as a hard limit to decide when to tighten monetary policy. This move basically stems from that fact that the unemployment rate is an unreliable measure because many long-term unemployed people simply drop out of the labor force causing the unemployment rate to under-report the degree of unemployment.
The FED's statement included the following language regarding the low interest rate policy:
The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends, especially if projected inflation continues to run below the Committee's 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.
In other words, once the FED stops buying bonds (ends fiscal stimulus), interest rates will stay low for a "considerable time".
Press Conference
After the FOMC meeting, Fed Chair Janet Yellen held a press conference to discuss the FED policy and answer some questions. This was Yellen's first press conference as FED Chair and she quickly got a taste for the power of FED jawboning. Ann Saphir of Reuters asked the following question:
".. once you do wind down the bond buying program, could you tell us how long of a gap we might expect before the rate hikes do begin?"
Yellen answered, in part, as follows:
"So, the language that we use in the statement is "considerable period.” So, I, you know, this is the kind of term it's hard to define. But, you know, probably means something on the order of around six months or that type of thing."
Let's take a look at how the market reacted to this statement. Below is a chart for the S&P 500 index for this past week with the release of the Fed statement and the "around six months" comment highlighted (data from TD Ameritrade - click to enlarge).
That's an 11 point drop in reaction to those 3 words.
Market Over-Reacted
Looking at how the S&P 500 traded the rest of the week it is clear that the market over-reacted to the "around six months" comment. Trades interepreted this comment to mean a change in FED guidance bringing about an increase in interest rates sooner than previously expected. In reality, this six-month comment seems to have been a slightly off-the-cuff remark. Let's take a look at Ms. Yellen's full answer to Saphir's question:
So, the language that we use in the statement is "considerable period.” So, I, you know, this is the kind of term it's hard to define. But, you know, probably means something on the order of around six months or that type of thing. But, you know, it depends what the statement is saying as it depends what conditions you like. We need to see where the labor market is, how close are we to our full employment goal--that will be a complicated assessment not just based on a single statistic--and how rapidly as we moving toward it. Are we really close and moving fast? Or are we getting closer but moving very slowly? And then, what the statement emphasizes and this is the same language we used in December and January,we used the language especially if inflation is running below our 2 percent objective. Inflation matters here, too, and our general principle tries to capture that notion. If we have a substantial short fall in inflation, if inflation is persistently running below our 2 percent objective, that is a very good reason to hold the funds rate at its present range for longer.
That's quite a bit longer than the 3-words the market latched on to. Notice that the answer actually mentions that some of the language is the same language used in prior FOMC meeting statements.
Our view is that the market reacted strongly to the 6-month comment because it was a specific number. The next FOMC meeting is being held on April 29th - 30th, but there will not be a press conference after this meeting. On June 18th after the FOMC meeting will be the next press conference. Ms. Yellen will likely be taking a more measured approach to statements.
Here is the full transcript of the press conference.
Here is the actual Fed Press conference:
