Since yesterday, the Federal Open Market Committee has been meeting. Oh, to be a fly on the wall at the Fed. Instead of the full picture of the Committee's hopes and fears for the economy, their usual several paragraph statement will be released this afternoon for market movers and reporters to overanalyze. As the months progress, these statements should become increasingly interesting, as eventually the Fed will have to begin tightening monetary policy. But I don't expect much of that this month or any indication that it intends to raise interest rates in the near future. At least, I hope.
For starters, the Committee will likely say that the economy is showing signs of improvement, but acknowledge that the U.S. economy isn't out of the woods quite yet. Of course, that's pretty common knowledge at this point. Its intentions for credit are far more interesting.
Federal Reserve Chairman Ben Bernanke has asserted that he fully intends to end the accommodative monetary policy eventually. He's just a little unclear on specifics. We already know that a few programs are set to end over the next several months. For example, the Fed set next March as the end date for the Term Asset-Backed Securities Loan Facility. Other such guidelines, which feel quite tentative, have also been set.
So we might get a few more such deadlines. Either way, we'll also likely get a lot of talk about how the Fed intends to tighten when the time is right, but now isn't that time. And I'd still expect interest rates to remain unchanged for a very, very long time. I'd be shocked if they were raised before next summer. But that's okay, because it would be really crazy for the Fed to tighten monetary supply anytime soon. Such an action would probably be the most sure-fire way to ensure that the recession double-dips.
John Makin over at the American Enterprise Institute does a great job of arguing against the temptation for the Fed to tighten too soon in the think tank's November outlook. He also provides an unusually clear explanation of why low interest rates are so sensible:
Savers are getting low interest rates because, in a world of massive excess capacity, the returns to real investment are very low. The resulting low real return on capital and falling inflation--year-over-year inflation is dropping in every major industrial country save the United Kingdom--are the reasons for low interest rates. A deflationary tightening by the Fed at this time would push even more funds into Treasury securities, thereby pushing interest rates for savers even lower. The weaker dollar is about the only thing that is operating now to help improve the outlook for the U.S. and global economies.
And he later concludes:
The jump in the U.S. monetary base has not boosted the static money supply because passive banks are not lending. Households are content to hold the sharp surge in liquidity as measured by the collapse in velocity, the ratio of nominal GDP to the money supply. Until the money supply rises and nominal GDP starts to rise (it is currently falling at a 2 percent rate year-over-year), the temptation to withdraw liquidity should be resisted.
Let's hope the Fed is listening.