The Federal Reserve announced Wednesday that it would not yet scale back the ambitious, open-ended bond purchase program it began last winter and instead continue adding stimulus to the still-weak economy.
The Federal Open Market Committee, the Fed’s monetary policy-setting panel, said in a statement following a two-day meeting of top officials in Washington that it would keep buying $85 billion in bonds each month. Most investors expected a reduction in that amount after months of suggestions from Fed officials that they would begin tapering the bond-buying program this fall.
The Fed’s decision not to change its policy statement postpones a much-anticipated transition in the Fed’s ongoing and unprecedented efforts to stimulate the U.S. economy back to normal functioning five years after the beginning of the deepest post-World War II recession. It means that the central bank will not take the first step toward winding down its stimulus and returning to a more normal course of monetary policy until at least its next meeting in late October.
The Fed’s pause before tapering reflects the fact that the economy has not improved as officials expected it to in the weeks since its last meeting in July. Recent reports on the employment situation have disappointed, with jobs growth averaging under 150,000 jobs for the past three month and the unemployment rate at 7.3 percent. Inflation also remains below the Fed’s target of 2 percent, with the latest reading being 1.2 percent by the measure Fed members prefer. Bernanke said in a June press conference that the Fed would not begin scaling back its bond purchases until the unemployment rate is on track for 7 percent or inflation rises above 2.5 percent.
In an implied criticism of Congress and the White House, the Fed’s statement also referred to recent “fiscal retrenchment” – meaning the across-the-board sequestration spending cuts begun in May — as a reason to wait until a later meeting to start withdrawing from stimulus.
The Fed also reassured markets that it would not remove support anytime soon. It repeated its promise to keep short-term interest rates near zero until unemployment falls below 6.5 percent, a promise that implies a longer bout of stimulus given that Fed officials also projected unemployment to remain higher for longer.
Fed Chairman Ben Bernanke has previously suggested that shifting from monthly bond purchases to more expansive promises of low rates is a “continued accommodation” of monetary conditions even if “the mix of tools that we use” changes.
Bernanke also has hinted that he would rather rely on forward guidance about interest rates than on quantitative easing. In a July appearance in the Senate, Bernanke acknowledged that it is “quite difficult to know for sure” how effective quantitative easing is, and that “the preponderance of the evidence is that [it] is not as powerful a tool as ordinary monetary policy.” Bernanke also mentioned the possibility that quantitative easing could undermine financial stability as a reason to slow it down.
Nevertheless, the bond purchases remain in place for now.
Not all 12 voting members of the FOMC, however, think the Fed is headed in the right direction. Esther George, president of the Federal Reserve Bank of Kansas City, dissented from the Fed’s decision, citing the risk that continued easy money could lead to rising inflation.
The Fed also slightly downgraded its projections of economic growth.
The consensus view of Fed officials is that economic growth will be slightly lower than in its previous projections. They expect real gross domestic product to grow between 2.9 and 3.1 percent in 2014 before slowly increasing to up to 3.3 percent in 2016. The White House, by contrast, expects growth above 5 percent in 2016.
By downgrading its projections while administering more stimulus, the Fed could send a mixed message to markets about how efficacious it expects its policies to be.
The early market reaction to the Fed’s announcement was positive before Bernanke’s scheduled press conference.
The Fed began its bond-buying program in December 2012, when it also first explicitly tied interest rates to the unemployment rate, saying that it would keep rates near zero until unemployment fell below 6.5 percent.
Since then, its balance sheet has expanded by about $800 billion to more than $3.6 trillion after purchasing $40 billion of mortgage-backed securities and $45 billion of Treasury bonds each month. Under its current timeline, the Fed would finish its quantitative easing program in mid-2014, with a balance sheet of near $4.5 trillion. The Fed’s total assets were below $900 billion at the onset of the financial crisis.