Published : Oct. 28, 2014 - 20:59
WASHINGTON (AP) ― The global economy has slumped. Turmoil has gripped financial markets. And the U.S. job market, despite steady gains, still isn’t fully healthy.
Yet when the Federal Reserve meets this week, few foresee any major policy changes. The Fed is expected to complete a bond-buying program, which was intended to keep long-term interest rates low. And, to support the economy, it will likely reiterate it’s in no rush to raise its key short-term rate.
The economy the Fed will discuss has been strengthening, thanks to solid consumer and business spending, manufacturing growth and a surge in hiring that’s lowered the unemployment rate to a six-year low of 5.9 percent.
Fed Chair Janet Yellen. (Bloomberg)
Still, global weakness poses a potential threat to U.S. growth. The housing industry is still struggling. And Fed Chair Janet Yellen has stressed that while the unemployment rate is close to a historically normal level, other gauges of the job market remain a concern. These include stagnant pay; many part-time workers who can’t find full-time jobs; and a historically high number of people who have given up looking for a job and are no longer counted as unemployed.
What’s more, inflation remains so low it isn’t even reaching the Fed’s long-term target rate of 2 percent. When inflation is excessively low, people sometimes delay purchases ― a trend that slows consumer spending, the economy’s main fuel. The low short-term rates the Fed has engineered are intended, in part, to lift inflation.
Low inflation isn’t all bad, of course. One factor in today’s ultra-low inflation has been sinking oil prices, which leave consumers with more money to spend on other items that drive economic growth. The Fed may note that fact in a statement issued after its meeting ends Wednesday.
In its statement, the Fed is expected to repeat a phrase that has buoyed investor hopes for continued low rates: That it expects to keep its benchmark rate at a record low near zero “for a considerable time.”
When the Fed last met six weeks ago, record stock prices and healthy hiring growth had raised investor concerns that the Fed might scrap its “considerable time” language. Then Europe’s renewed weakness deepened worries about the global economy and about whether a deflationary spiral that’s plagued Japan for two decades could spread internationally. Financial markets tumbled.
Stocks have since regained most of their lost ground. Yet the concerns about deflation and a weaker Europe have made clear that the central bank is increasingly looking beyond the United States.
“The Fed needs to consider the international situation,” said Sung Won Sohn, an economics professor at the Martin Smith School of Business at California State University. “The global economy is very soft, and Europe is on the verge of relapsing into recession.”
Partly because of those threats, most economists think the Fed will maintain its “considerable time” language. If, on the other hand, it dropped that phrase, the Fed would likely seek to reassure markets that the timing of any rate increase would depend on strengthening economic data.
The Fed has pared its bond purchases from an initial $85 billion a month last year to $15 billion, and in September it said it expected to end them altogether after the October meeting. Even when it does, the Fed will be left with a record investment portfolio of nearly $4.5 trillion, which will still exert downward force on long-term rates.
In September, the Fed voted 8-2 to keep its key short-term rate at a record low and said it expected it to remain there for a “considerable time” after its bond purchases end. Minutes of the meeting showed that officials worried that any adjustment to that phrasing might be misinterpreted as a shift in the Fed’s stance on rates.
A better time for changing the “considerable time” language might be at the Fed’s December meeting. After that meeting, unlike this week’s session, Yellen will hold a news conference and would be able to explain the Fed’s thinking.
In the meantime, investors will remain on high alert for the first hint that rates are set to move higher.
“Given that the Fed has kept interest rates low for so long and artificially boosted asset prices such as stocks for so long, a period of instability in inevitable and we are seeing that now,” said David Jones, author of a new book on the Fed’s first 100 years.
Most economists have said they think the Fed will start raising rates by mid-2015. But the global economic weakness, market turmoil and falling inflation forecasts have led some to suggest that the Fed might now wait longer.
Diane Swonk, chief economist at Mesirow Financial, thinks the Fed will keep rates near zero until September and that when it does raise them, the increases will be incremental.
“The operative word will be gradual,” Swonk said. “The Fed is getting close to their goal on employment, but they are still missing the target on inflation and they will want to address that.”