Minutes from the Federal Reserve Open Market Committee always get a lot of attention, but the minutes from December’s meeting are especially important, because at that meeting the Fed finally launched a slowdown of its bond-buying economic stimulus program.
Embedded in those minutes was intriguing discussion on whether the Fed’s near-eternal quantitative easing was causing a bubble in the stock and housing markets. After all, the S&P 500 was up about 28% in 2013, and U.S. housing prices rose about 13.5%.
The Wall Street Journal jumped on this with a story headlined: ‘Fed Minutes: Bubble Risks Drawing Attention‘. The story quoted Dan Greenhaus, chief global strategist at brokerage firm BTIG LLC, as saying, “The Fed is looking for evidence that they may be creating asset bubbles. That’s better than not looking.”
Read the full text of the Federal Reserve minutes and you can decide for yourself. Here is my summary of the core topics from the minutes, released Wednesday:
- At least a little risk of a bubble? The Fed committee considered its aggressive bond-buying program, which lowers long-term interest rates and propels values of stocks, and said:
Participants were most concerned about the marginal cost of additional asset purchases arising from risks to financial stability, pointing out that a highly accommodative stance of monetary policy could provide an incentive for excessive risk-taking in the financial sector.
- Do we really know what we are doing? Um … not sure.
It was noted that the risks to financial stability could be somewhat larger in the case of asset purchases than in the case of interest rate policy because purchases work in part by affecting term premiums and policymakers have less experience with term premium effects than with more conventional interest rate policy.
- How do we get out of this? Ah yes. How do you yank away this economic stimulus, which has boosted the housing and stock markets for years?
(P)articipants noted that ongoing asset purchases could increase the difficulty of managing exit from the current highly accommodative policy stance when the time came. Many participants, however, expressed confidence in the tools at the Federal Reserve’s disposal for managing its balance sheet and for normalizing the stance of policy at the appropriate time.
- OK, but is this even working? Another great question.
A majority of participants judged that the marginal efficacy of purchases was likely declining as purchases continue, although some noted the difficulty inherent in making such an assessment. A couple of participants thought that the marginal efficacy of the program was not declining,
- The economy is doing fine.
The information reviewed for the December 17-18 meeting indicated that economic activity was expanding at a moderate pace. … The unemployment rate declined, on net, from 7.2 percent in September to 7.0 percent in November. … (T)he forecast for growth in real gross domestic product (GDP) in the second half of this year was revised up a little.
- Inflation isn’t high enough. The Fed isn’t happy with the 1.2% rise in CPI over the last 12 months. It wants 2% or higher.
Inflation continued to run noticeably below the Committee’s longer-run objective of 2 percent, but participants anticipated that it would move back toward 2 percent over time as the economic recovery strengthened and longer-run inflation expectations remained steady. … (I)nflation was projected to be subdued through 2016.
- Housing is slowing down. This is what happens when prices rise and long-term interest rates increase.
The pace of activity in the housing sector appeared to continue to slow somewhat, likely reflecting the higher level of mortgage rates since the spring. … Sales of existing homes and pending home sales decreased further in October, although new home sales rose in October after falling markedly in the third quarter.
- Interest rates are rising, even when you try to hold them down. It works that way sometimes.
Mortgage rates rose over the intermeeting period to levels about 100 basis points above their early-May lows.
- American consumers are getting their mojo back, thanks to higher stock and housing prices.
Consumer spending appeared to be strengthening, with solid gains in retail sales in recent months and a rebound in motor vehicle sales in November. … (S)pending was being supported by gains in household wealth associated with rising house prices and equity values, the still-low level of interest rates, and the progress that households have made in reducing debt and strengthening their balance sheets.
- Congress and the White House are behaving.
(A) number of participants observed that the prospect that the Congress would shortly reach an accord on the budget seemed to be reducing uncertainty and lowering the risks that might be associated with a disruptive political impasse.
- Let the tapering begin, with qualms. The Federal Reserve actually set a plan to lower its bond-buying stimulus, and the world did not end.
(M)ost participants saw a reduction in the pace of purchases as appropriate at this meeting and consistent with the Committee’s previous policy communications. … However, several participants stressed that the unemployment rate remained elevated … and that the projected pickup in economic growth was not assured. Some participants also questioned whether slowing the pace of purchases at a time when inflation was running well below the Committee’s longer-run objective was appropriate.
- Can we please have a plan?
A few proposed that the Committee lay out, either at this meeting or subsequently, a more deterministic path for winding down the program or that it announce a fixed amount of additional purchases and an expected completion date, thereby reducing uncertainty about the trajectory of the purchase program.
- Finally, a decision. The tapering door opens, a crack, but it is now open.
(T)he Committee agreed that, beginning in January, it would add to its holdings of agency mortgage-backed securities at a pace of $35 billion per month rather than $40 billion per month, and add to its holdings of longer-term Treasury securities at a pace of $40 billion per month rather than $45 billion per month.