The Federal Reserve on Wednesday extended its $120 billion monthly asset purchases through September 2021 to provide sustained accommodation to the economy as it recovers from a deep pandemic-induced recession.
The Fed also extended its temporary dollar swap lines and repurchase facility past the March 31 expiration.
In addition, as the global economy absorbs the latest series of public health shocks, the U.S. central bank extended its temporary dollar swap lines and repurchase facility past March 31, when they were to expire. The move was made to prevent dollar funding pressures in the international economy and smooth the functioning of the U.S. Treasury market.
As expected, the Fed maintained its policy rate at a range between 0 and 25 basis points.
It is now evident that the duration of asset purchases is tied to policy targets, or as the Federal Open Market Committee’s statement outlined, “until substantial further progress has been made toward the committee’s maximum employment and price stability goals.” So then, what is substantial progress? We anticipate that will be defined as an unemployment rate near 4% and inflation above the 2% target for a yet indeterminate time.
In our estimation, the statement combined with the forecast is neither hawkish nor dovish. Instead, it reflects difficult short-term challenges and the recognition that while the return to full potential will occur soon, it will be some time before the economy returns to full employment. The Fed stands ready to provide accommodation until it does, and possibly well after.
While we think that the Fed will eventually choose to increase the pace and intensity of its asset purchase program to partially offset the drag to the economy linked to the public health crisis and dampen long-term rates to bolster overall economic activity, it chose not to do so this week. For this reason, the first quarter of 2021 will be in play with respect to additional monetary accommodation by the Fed.
The Fed’s “dot plot” interest rate forecast continued to indicate that the federal funds rate will remain effectively at zero until the end of 2023, while the long-run estimate of the nominal policy rate remains at 2.5%.
There was only one change to the dot plot forecast, with one member of the Fed increasing the forecast to 0.25% to 0.5% from 0% to 0.25%. With inflation expected to grow at 2% over the long run, that implies the Fed believes the neutral long-run rate is approximately 0.5%, which of course should signal to other policymakers and investors that the central bank has plenty of runway to provide accommodation to the economy.
The other main takeaway of this week’s FOMC meeting is that the arrival of a series of vaccines has not altered the Fed’s rate forecast, which should assuage market participants.
More important, the Fed’s Summary of Economic Projections signaled that the Fed expects faster growth, lower unemployment and price stability. The FOMC reduced its 2020 growth estimate to minus-2.4%, while simultaneously lifting its growth forecast for 2021 to 4.2% from 4%, and its 2022 estimate to 3.2% from 3%, both above the long-term growth trend of 1.8%.
The employment forecast looks a bit better, with the Fed expecting the unemployment rate to decline to 5% in 2021, down from 5.5% previously. Its estimate for 2022 indicates a 4.2% rate, down from the 4.6% posted during the September forecast and above the long-term estimate of 4.1% that the Fed believes indicates full employment.
The inflation forecast remains essentially unchanged, with the core personal consumption expenditures inflation estimate increasing from 1.4% this year to 1.8% in 2021 and 1.9% in 2022, all below the long-term target of 2%.
In his press conference that followed the publication of the policy statement, Federal Reserve Chairman Jerome Powell included language stating that he thought direct fiscal aid to individuals and businesses may be necessary to ensure a robust recovery.
