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US Federal Reserve officials are weighing whether they should communicate more of their views about the probable pace of interest-rate increases after they lift off zero next year.
"A number of participants thought that it could soon be helpful to clarify the committee's likely approach" to the pace of increases, according to minutes of the October 28-29 Federal Open Market Committee meeting released on Wednesday in Washington.
The discussion last month underscored how much officials will rely on forward guidance in the future. After bond purchases ended last month, language may be the most practical option left to assure investors that policy won't become overly restrictive if officials decide to take a stand against inflation seen as too low.
"It isn't just the timing of liftoff the Fed cares about, but the whole path of the federal funds rate," said Laura Rosner, U.S. economist at BNP Paribas SA in New York. "They do probably want to limit the extent of tightening that people expect, at least at the beginning."
At last month's meeting, the central bank decided to end bond purchases intended to boost the economy, citing improvements in the labor market. It also repeated a pledge to keep interest rates low for a "considerable time."
The minutes showed that many FOMC participants felt the committee should stay on the lookout for signs that inflation expectations were declining. Inflation has remained below the Fed's 2 per cent goal for 29 straight months, and the pace of price increases has been slowing.
Declining expectations could herald an actual fall in prices. Such deflation does economic damage by encouraging consumers to delay spending in anticipation of lower prices in the future.
Global risks
Officials also discussed global economic developments, which ultimately didn't figure in their post-meeting statement. While policy makers "pointed to a somewhat weaker economic outlook and increased downside risks in Europe, China, and Japan," they judged that the impact on the U.S. economy is "likely to be quite limited."
The Standard & Poor's 500 Index fell 0.2 per cent on Wednesday to close at 2,048.72 in New York. The yield on the 10-year Treasury note increased four basis points, or 0.04 percentage point, to 2.36 per cent on expectations the minutes didn't signal a change in the odds of a rate increase next year.
The potency of the first increase could be diminished or increased, depending on what the FOMC says about how it views its subsequent moves, said Rosner, a former New York Fed staff member.
Guy Berger, a US economist at RBS Securities Inc in Stamford, Connecticut, said the pace of tightening is "going to be slow until they are really convinced that inflation's sustainably at target and the labor market's in really, really good shape."
"They are going to take their sweet time," he said.
While telegraphing the future rate path may be attractive to some officials, it may also be unpopular with those, such as Chair Janet Yellen, who recall the Fed's experience in 2004 with language saying the pace of increases would be "measured."
Household savings rates dropped, borrowing against home equity soared and mortgage credit quality weakened as the Fed ruled out the possibility of aggressive interest-rate increases, helping to pave the way for the 2008 financial crisis.
At her September press conference, Yellen stressed that changes in the rate will be data dependent.
The October minutes said "it was noted" - language that some analysts suggest refers to the chair - that "communication about post-liftoff policy would pose challenges given the inherent uncertainty of the economic and financial outlook and the committee's desire to retain flexibility to adjust policy in response to the incoming data."
Most officials supported the current statement language that economic conditions may warrant keeping "the target range for the federal funds rate below longer-run normal levels even after employment and inflation are near mandate-consistent levels."
Fed officials' quarterly economic forecasts make some of that foot-dragging on policy normalization explicit.
For example, officials expect the U.S. to be at what they regard as full employment in the final quarter of 2016, according to projections the Fed released in September.
At that point, their median forecast for the main rate is 2.875 percent, almost a percentage point below the 3.75 percent rate that officials estimate to be the so-called neutral level of the federal funds rate, which they say keeps inflation and employment in balance.
Median Projections
Put another way, if the committee starts raising rates in June and follows the path described by their latest median projections, it would take 2-1/2 years to increase rates from zero to 3.75 percent.
Investors are projecting an even slower pace of rate increases, suggesting they are more pessimistic about growth next year than the Fed and may view too-low inflation as a stubborn problem.
Eurodollar futures imply the Fed will raise the benchmark rate around 0.25 percent per quarter between the third quarter of next year and the first quarter of 2017. The rate will only rise to a range of 2.25 percent to 2.50 percent by the end of 2017, versus the median Fed official's 3.75 percent estimate.
By comparison, in the last tightening cycle, the committee raised the federal funds rate from 1 percent in June 2004 to 5.25 percent in June 2006, closing a larger gap in less time.
