There´s no substitute for a clearly specified nominal target.

The market largely anticipated that the Fed would begin to taper its purchases in September; expectations which the Fed largely dictated. In the May meeting there was a change in language:

To highlight its willingness to adjust the flow of purchases in light of incoming information, the Committee included language in the statement to be released following the meeting that said the Committee was prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changes.

In the June meeting it indicated that a reduction in purchases would likely begin soon:

Going forward, the economic outcomes that the Committee sees as most likely involve continuing gains in labor markets, supported by moderate growth that picks up over the next several quarters as the near-term restraint from fiscal policy and other headwinds diminishes. We also see inflation moving back toward our 2 percent objective over time. If the incoming data are broadly consistent with this forecast, the Committee currently anticipates that it would be appropriate to moderate the monthly pace of purchases later this year.

But in the September meeting the FOMC got ‘cold feet’:

The Committee anticipated in June that, subject to certain conditions, it might be appropriate to begin to moderate the pace of purchases later this year, continuing to reduce the pace of purchases in measured steps through the first half of next year, and ending purchases around midyear 2014. However, we also made clear at that time that adjustments to the pace of purchases would depend importantly on the evolution of the economic outlook—in particular, on the receipt of evidence supporting the Committee’s expectation that gains in the labor market will be sustained and that inflation is moving back towards its 2 percent objective over time.

At the meeting concluded earlier today, the sense of the Committee was that the broad contours of the medium-term economic outlook—including economic growth sufficient to support ongoing gains in the labor market, and inflation moving towards its objective—were close to the views it held in June. But in evaluating whether a modest reduction in the pace of asset purchases would be appropriate at this meeting, however, the Committee concluded that the economic data do not yet provide sufficient confirmation of its baseline outlook to warrant such a reduction.

The chart indicates that the FOMC has been ratcheting down its growth expectations. It continued to do so in September. So there was really no other option but to ‘call off the taper’.

Nominal Target_1

What really must be ‘bugging’ the Fed, however, is the behavior of inflation. Although the Fed has for a long time been saying that “participants generally continued to expect that inflation would move closer to the 2 percent objective over the medium run”, the chart shows that even after QE3 + Thresholds + Forward Guidance both headline and core PCE have continued to trend down!

Nominal Target_2

One effect of the ‘tapering talk’ has been an increase in asset market volatility. The chart shows the S&P index since January 2013.

Nominal Target_3

One thing to hope for is that a change in Fed leadership will also bring changes in its modus operandi!

One thought on “There´s no substitute for a clearly specified nominal target.

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