2014 Economic Outlook

The FED decides to Taper $10bn per month, $5bn in UST and MBS.

The FOMC decided today to “modestly” reduce the size of both MBS and UST purchases by $5bn each per month, reducing the pace of bond buying from $85bn to $75bn. The FOMC anticipates further reductions, the statement says, but “asset purchases are not on a preset course, and the Committee’s decisions about their pace will remain contingent on the Committee’s outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases.”

In other words, further cuts in QE remain data dependent, as they have always been.

The Fed cited a moderate pace of economic growth, and a declining, but still elevated unemployment rate in the statement. They also said that judging from the degree of economic drag from fiscal restraint this year, QE worked better than it might appear from the economic data alone.

Something important in the statement: There is new forward guidance for fed funds. The statement now promises to keep the fed funds rate very low “well past the time that the unemployment rate declines below 6 ½ percent, especially if projected inflation continues to run below the committee’s two percent goal.” This is new guidance on fed funds which goes part way toward the Fed staff’s urging of a lower threshold.

The biggest surprise is a growth forecast much closer to the weak forecast in September than the stronger one in June. The forecasts for fed funds at the end of 2015 and 2016 were cut from 1% and 2% to 0.75% and 1.75%, respectively. Bernanke said in the press conference these forecasts are consistent with a first rate hike in late 2015.

Equity markets were pleased apparently and bond markets were mostly unchanged which indicates substantial expectations for this were already priced in.

Bottom line on the statement: The Fed is pleased with recent economic developments and believes the economy is on track for even stronger growth in the future. As a result, the pace of bond buying was reduced, though it is still significant at $75 billion a month, especially considering the reinvestment of roll-off continues. Going forward, the Fed will continue to taper at upcoming meetings as long as incoming data support tapering.

Bradley M. Spivey

Vice President