The communication following the Federal Open Market Committee (FOMC) two day meeting January 24-25 comes in three parts. The standard statement is joined by the release of tables and charts summarizing the economic projections and the target federal funds rate projections of the meeting participants, as well as an additional statement explaining the Fed’s principles regarding longer-term goals and policy strategy.
The standard statement upgrades labor market conditions slightly, referring to “further” improvement, but includes the usual caution that the unemployment rate remains elevated and is expected to decline only gradually. Expectations for economic growth are downgraded to “modest” from “moderate” in last month’s statement. Inflation is expected to “run” rather than “settle” at levels at or below the desired level, and the housing sector remains depressed. The most significant change in the statement is the revelation that the committee now expects to keep the target federal funds rate at its current exceptionally low level until late 2014, instead of the previously announced horizon of mid-2013.
The economic projections, updated from November, push robust recovery further into the future, lowering GDP growth and inflation in 2012 and 2013, and raising both in 2014. Projections for the unemployment rate are lower in all three years but decline less over the period.
The central tendency (i.e., excluding the highest 3 and lowest 3 of the 17 participants) of projections for real GDP growth range from 2.2 to 2.7 percent in 2012, 2.8 to 3.2 percent in 2013, and 3.3 to 4.0 percent in 2014. Projections for core inflation range from 1.5 to 1.8 percent, 1.5 to 2.0 percent, and 1.6 to 2.0 percent in 2012, 2013 and 2014. Projections for the unemployment rate range from 8.2 to 8.5 percent, 7.4 to 8.1 percent, and 6.7 to 7.6 percent in 2012, 2013 and 2014.
The Fed’s desire to increase clarity and transparency motivated releasing projections of the path of the target federal funds rate in addition to the economic projections. In keeping with the expectation of a low rate until late 2014, only 3 FOMC members expect the first rate increase by the end of 2012. Three more members anticipate the first increase by the end of 2013. Five members anticipate the first move in 2014. Of the remaining six members, 4 anticipate the first increase in 2015, and 2 in 2016.
In addition to when the increases should begin, projections of the level of the target federal funds rate at year end are included. By the end of 2014, 5 FOMC members anticipate the rate should be at or above 2.0 percent, 11 members anticipate the rate should still be no higher than 1.0 percent.
The broad consensus among committee members is that over the longer run the rate should be between 4.0 and 4.5 percent. One member identifies 3.75 percent as the appropriate longer run level.
The statement regarding the FOMC’s goals and strategy identifies maximum employment, stable prices and moderate long-term interest rates as its statutory mandate. Furthermore, clear explanation of monetary policy decisions increases the effectiveness of policy by enabling informed decision making on the part of businesses and households.
The committee identifies inflation over the longer run as largely the product of monetary policy, and as such amenable to targeting, with a 2.0 percent annual rate a level consistent with its mandate of price stability.
In contrast, the committee explains, the maximum level of employment is determined by nonmonetary factors related to the labor market, and subject to change over time. The committee argues this makes it inappropriate to set a fixed target for maximum employment. Instead, the FOMC sets monetary policy to minimize deviations between actual levels and beliefs about the long run normal rate of unemployment. The central tendency of these beliefs among the current committee members range from 5.0 to 6.2 percent.
The committee also states that the objectives of price stability and maximum employment are generally complementary, but in cases when they are not, a balanced approach, recognizing the magnitude of the deviations from desired levels and expectations of the timing of return to normal levels will be taken.
The statement and accompanying materials are available at: http://www.federalreserve.gov/
Internal debate on ways to improve the committee’s communication of monetary policy have been going on for some time, with a range of views on whether various approaches would clarify or confuse the public. The addition of the target federal funds rate projections and the statement of monetary policy goals and strategy are a major break from the past in terms of communication to the public. Analysts’ reactions have been mixed.
Taken together, the information released following the January FOMC meeting indicates that monetary policy will remain highly accommodative for the better part of the next 2 years, based on expectations of a long slow economic recovery with inflation subdued and the unemployment rate declining slowly. The projections of the target federal funds rate represent a quantum leap in information and provide a much improved view of the deliberations and the range of views considered in the setting of policy. So while the FOMC statement has broken new ground recently by explicitly stating the intent to keep rates low for a specific period of time, these projections provide the clearest view that the committee has the votes to do it.