The Federal Reserve said it would begin scaling back its massive $120 billion (€104 billion) monthly bond-buying programme this month, a critical milestone for a US economy that is recovering from the pandemic and contending with surging inflation.
The decision is the culmination of months of debate among Fed officials about the level of support the world’s largest economy needs as price pressures begin to extend beyond the sectors most sensitive to the post-pandemic reopening.
At the end of a two-day policy meeting, the Federal Open Market Committee said on Wednesday it would reduce its purchases of Treasury securities by $10 billion per month, having achieved "substantial further progress" towards its twin goals of maximum employment and inflation that averages 2 per cent. The central bank will also reduce its purchases of agency mortgage-backed securities by $5 billion a month.
The tapering process is set to begin in mid-November, which suggests the stimulus programme would cease altogether in June 2022. The purchases would be reduced further at the beginning of December, to $60 billion in treasuries and $30 billion in agency mortgage-backed securities, and further reductions are seen to be “appropriate” each month.
The Fed committee said it was “prepared to adjust the pace” of the tapering process “if warranted by changes in the economic outlook”, adding that the remainder of the bond-buying programme would “foster smooth market functioning and accommodative financial conditions” to “support the flow of credit to households and businesses”.
Abrupt actions
The move from the Fed corresponded with abrupt actions by a number of central banks around the world to tighten monetary policy, including the Reserve Bank of Australia and the Bank of Canada.
The Bank of England, which meets on Thursday, is expected to raise interest rates for the first time since 2018. Investors are betting that the European Central Bank could follow suit next year despite recent pushback from the bank's president, Christine Lagarde.
Roaring consumer demand in the US has collided with acute supply chain disruptions, causing prices to surge in some sectors for longer than central bankers had anticipated. Rising rents coupled with wage pressures and a severe shortage of workers have given rise to concerns that inflation will prove more persistent than the Fed had initially expected.
The central bank’s preferred inflation gauge, the core personal consumption expenditure index – which strips out volatile items like food and energy prices – rose 3.6 per cent in September from a year earlier.
On Wednesday, the Fed tweaked the language it used to describe the inflationary outlook. It said that elevated prices are “expected to be transitory”, whereas previous statements had said inflation was being largely driven by “transitory factors”. The small change was a tacit if subtle admission that higher prices could persist for longer than it had originally anticipated.
The statement also indicated that supply and demand imbalances have contributed to “sizeable price increases in some sectors”, and said that progress on vaccinations and easing supply constraints would further support the economic recovery and help bring down inflation.
Main rate
No adjustment was made to the Fed’s main policy rate, which is tethered near zero, and the central bank’s statement reiterated that the economic bar for raising rates was far higher than that for tapering.
Also on Wednesday, the Treasury said it would reduce the amount of debt it issues this quarter, as funding needs for fiscal projects have waned. It is the first cut to treasury bond auction sizes in five years and provides a counterweight to the Fed’s taper, analysts say.
"It's almost fortuitous that it is happening this way. It's certainly good for the treasury market – it will help offset some of the demand loss," said Gennadiy Goldberg, senior US rate strategist at TD Securities.
– Copyright The Financial Times Limited 2021
