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Forex News – Fed shifts to qualitative forward guidance, Yellen implies earlier rate hikes
March 20, 2014 11:03 amVideo
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The Federal Reserve concluded a two-day policy meeting on Wednesday with an announcement that it will taper stimulus by a further $10 billion to $55 billion a month. While this was widely expected by the markets, what came as a surprise were comments by Fed Chair Janet Yellen.
During her press conference, Yellen implied that the Fed increased its interest-rate forecasts and suggested that there was no notable change in the Fed’s outlook on the US economy. Yellen remarked that rates could start rising “around six months” after the Fed ends its quantitative easing (QE) program.
Based on these comments, if QE ends this fall, then the first rate increases could take place by the summer of 2015. Projections are for an increase to at least 1% by 2015, up from 0.5%, and to 2.25% at the end of 2016.
The overall take away from the Fed statement was that it was more hawkish than initially thought since the Fed did not downgrade US growth forecasts for this year or next and it is continuing its course to unwind its massive monetary stimulus by the fall.
Of course it was noted that the path of tapering was very much data-dependent and it will depend on the US economy’s performance, especially the labor market’s. Employment will be closely watched even though the Fed has moved away from quantitative forward guidance and has dropped the 6.5% unemployment rate threshold which it was using to decide when to hike rates. The Federal Open Market Committee (FOMC) said it will no longer link borrowing costs to a specific unemployment rate, saying it would instead consider a broad range of indicators on the labor market, inflation and financial markets.
This transition to a more qualitative threshold gives the Fed more wiggle room in terms of determining what the economy needs and what direction monetary policy should take. The Fed’s change in stance is similar to the Bank of England’s in February when it changed its forward guidance. The BoE communicated that there was still spare capacity in the UK economy amounting to between 1-1.5% of national output, that can be absorbed by a growing economy before interest rates need to rise.
The communication from the Fed on Wednesday led to short-term volatility in the markets. After the FOMC statement and Yellen’s presser, the dollar surged more than 1 percent against the yen and almost 1 percent versus the euro on Wednesday while the S&P 500 fell 0.6 per cent and gold shed $26.
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