FOMC Policy Announcement

FOMC Stays the Course, QE3 Sails On, Other News Mixed

  • QE3 will continue as originally defined with a total of $85 billion of asset purchases per month.
  • The FOMC is prepared to change the pace of purchases as conditions change.
  • The near‐zero fed funds rate remains linked to an unemployment rate threshold of 6.5 percent.
  • The FOMC will continue to tolerate inflation expectations of up to 2.5 percent.
  • The policy announcement states that “fiscal policy is restraining growth”.

In today’s monetary policy announcement the Federal Open Market Committee released a statement that is nearly identical to the one released on March 20. QE3 will remain on course, as originally defined, at a pace of $40 billion worth of MBS and $45 billion worth of Treasury bond purchases per month. The fed funds rate will stay near zero as long as the unemployment rate remains above a 6.5 percent threshold. There are only two key modifications to the Fed’s language in today’s statement. First, the FOMC states unequivocally that “fiscal policy is restraining growth”. Second, the committee states that they are prepared to increase or decre ase the size of asset purchases as economic conditions change. No real news there.

So for now, QE3 keeps sailing and the funds rate stays near zero. The FOMC reaches a key decision point in late summer when Chairman Bernanke will position monetary policy for a smooth transition in leadership to his successor, who may end up being Janet Yellen. Late summer (third quarter) is also the time when federallevel fiscal drag will be at its maximum. The Fed will not ease off until it is convinced that economic growth will continue despite the headwind of increasing fiscal drag. The end of QE3 will not be a cliff; it will be a
gradual wind down, commencing in late 2013 or early 2014, taking three to six months to finalize.

Other recent economic news has been mixed. Manufacturing and labor data has been soft, while residential real estate conditions remain positive and consumer confidence increased. The ISM Manufacturing Index dipped to a still‐positive 50.7 for April. Significantly, the employment sub‐index was down four points to a near‐neutral 50.2, meaning that hiring in manufacturing is cooling down. That is consistent with the weak payroll numbers we saw for March (+88K) and consistent with a weaker‐than‐expected ADP payroll survey for
April (which also came out this morning). The ADP payroll report showed that 119,000 private‐sector jobs were added in April. If we assume that government employment will be a drag of about 10,000 workers, that would put the official BLS payroll number for April at about 109,000, well below the consensus expectation of 150,000. The BLS numbers for April are due out Friday morning. Construction spending for March declined by 1.7 percent as total publically funded construction declined by 4.1 percent. Consumer confidence increased sharply in April according to the Conference Board. Their index increased from 61.9 in March to 68.1 in April. House prices continue to firm up. The Case‐Shiller 20‐City composite index increased by 1.2 percent from January to February. The index is now up 9.3 percent from a year ago. The Dallas Fed’s Texas Manufacturing Index fell from a positive 9.9 to a near‐neutral ‐0.5 in April. The Chicago Purchasing Managers Index fell to
4 9.0 for April, indicating deteriorating regional manufacturing conditions there.

Market Reaction: U.S. equity markets remained in the red after the FOMC announcement. Treasury yields are falling. Crude oil is down to $91.19/barrel. The dollar is down against the yen and the euro.

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