On Wednesday, the Federal Reserve (the Fed) announced the tapering of their asset purchase program beginning in January of 2014, citing progress in the labor market. In case you are curious as to what this means, we wanted to give you an update.
Essentially, the Fed will be reducing monthly agency MBS purchases (mortgage-backed securities) from $40B to $35B and monthly Treasury bond purchases from $45B to $40B.
Some of the highlights from the Fed’s comments:
- Since the previous Fed meeting, the labor market is improving and the economy is showing signs of expansion.
- The unemployment rate “has declined but remains elevated.”
- Risks to the economy and the labor market have “become more nearly balanced.”
- Inflation is currently running below the long range target of 2% (November’s Consumer Price Index Year over Year (CPI YoY) change equals 1.2%). The committee recognized the risk deflation poses to the economy.
- The current accommodative monetary policy with a federal funds rate target of 0%-0.25% is expected to remain in effect, and likely well-past unemployment falling below 6.5% as long as projected inflation 1-2 years out is no more than 2.5%.
- Asset purchases are likely to be reduced further in the future, but no preset plan is in place.
- The Fed’s decision to taper was nearly unanimous, with only 1 Federal Open Market Committee (FOMC) member voting against the action. Immediately following the announcement, the 10-year Treasury Yield spiked to hit 2.90% and closed at 2.89%, and the S&P 500 closed up 1.7% on the day.
Chairman Bernanke indicated future tapering decisions will continue to be very data dependent. That said, the majority of FOMC participants surveyed indicated that the first increase in the Fed funds rate would occur sometime in 2015.
Although current Fed policies have the potential to be inflationary, data suggests that has yet to materialize. The Fed’s projection for core personal consumption expenditure inflation (excludes food & energy) fell slightly from their September estimates for all years 2013-2016.
All in all, the Fed’s goal continues to be to drive the economy forward by keeping pressure on longer-term interest rates and providing support to the mortgage market and greater economy.