Decision Day for the Fed

Eakinomics: Decision Day for the Fed Today the Federal Open Market Committee (FOMC) convenes at 20th and Constitution to decide how aggressively to launch its fight against inflation. The key decisions on how much to raise the Fed’s policy rate (the federal funds rate) and what the plan will be for unloading the $5 trillion in Treasuries and mortgage-backed securities (MBS) that wasacquired while flooding financial markets with liquidity in 2020 and 2021. Based on a series of speeches by Fed officials over the past six weeks, a rough consensus has emerged around a 50-basis point (one-half percentage point) rise in the federal funds rate and a runoff of $95 billion a month in balance sheet assets ($60 billion of Treasuries and $35 billion of MBS). Both policies will raise market interest rates, with the ultimate goal being to lower inflation from its current 8.5 percent annual rate to the Fed’s target of 2.0 percent. The interim target is to move the federal funds rate to neutral as expeditiously as possible. “Neutral” is the point at which monetary policy is neither pushing the pace of economic growth nor throttling back aggregate demand. Estimates differ, but most believe that it lies in the 2.0 to 3.0 percent range. The Fed is a long way from that range right now. “Expeditiously as possible” is in the eye of the beholder, but most have interpreted this as meaning by the end of 2022. The specter of Fed tightening – which, remember, for the moment means going from maximum monetary stimulus to neutral – has raised a lot of chatter about the possibility of a recession. These fears were heightened by the fact that 1st quarter growth in real gross domestic product came in at -1.4 percent. As noted earlier, this is probably an overreaction, as stripping out some of the one-time noise in the report showed continued strength in domestic demand. The Fed got a reminder of this fact yesterday when the Bureau of Labor Statistics released the March data on Job Openings and Labor Turnover Survey (JOLTS). The labor market remained very hot with the number of job openings at a record high of 11.5 million and quits also at a record 4.5 million. It seems unlikely that the Fed will surprise to the downside of 50 basis points given the high and rising inflation rate. It seems equally unlikely that it will throw overboard a vigorous information campaign and come in at 75 basis points or higher. But we won’t know for sure until this afternoon.