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The rapid drop in US unemployment will make re-crafting the Federal Reserve's easy-money promise a top priority for new Chair Janet Yellen, who will probably avoid tying policy to specific targets in the labour market.
It was more than a year ago that the US central bank first promised not to raise interest rates until joblessness fell to at least 6.5 per cent, a pledge that policymakers thought would hold until at least mid-2015.
The Fed still wants to assure investors that rates will stay low for at least another year, but there is growing debate among policymakers over how to get this message across now that the jobless rate stands at 6.6 per cent but the pace of job creation remains erratic at best.
Fed officials are likely to drop any reference to a specific rate of unemployment, according to several who have addressed the topic in recent days. They could also renew a pledge not to tighten policy until inflation starts to rise back to more normal levels, and they may reinforce the notion that financial conditions will factor into any decision.
"We will have to reformulate it and provide some qualitative way of providing an assessment of what time horizon we think is most likely," Jeffrey Lacker, president of the Richmond Fed, told reporters in Virginia on Tuesday.
This reformulation could come as soon as a Fed policy-setting meeting on March 18-19.
On the surface, the shift to a more qualitative, succinct message may seem modest.
But the stakes are high: policymakers are in the midst of phasing out their massive bond-buying programme, but worry that the US economic recovery could stall if financial conditions tighten too soon. To ensure that stimulus still flows, they plan to lean ever more heavily on their promise to investors that a rate hike is far in the future.
Lacker pointed to one option available to the Fed: relying more on charts the Fed publishes four times a year showing when each individual policymaker expects rates to finally rise, and how high they will be up to four years into the future.
The so-called summary of economic projections, or SEP, last published in December, has 12 of the Fed's 17 policymakers expecting to begin to tighten policy some time next year - an expectation that aligns with traders in rate-futures markets.
"I'd point out that the SEP provides a rich portrayal of the array of views within the committee, and even if we said nothing the SEP would be pretty informative," Lacker said.
At its March policy meeting, the Fed could simply erase an extensive reference to its rate-rise thresholds - including a nod to 6.5-per cent unemployment and 2.5 per cent inflation - and restate that easy policy will be needed "for a considerable time after the asset purchase programme ends and the economic recovery strengthens."
Yellen, at her first press conference as chair after the meeting, could then direct investors' attention to the SEP, which also shows Fed officials' forecasts for unemployment, inflation and economic growth over the next few years.
As it stands, the central bank's policy is to keep rates near zero until "well past the time" joblessness falls to below 6.5 per cent "especially" if inflation expectations remain weak.
The trick for Yellen is rewriting this so-called forward guidance without suggesting the Fed is poised to drop its support for the economy, which could spark a spike in borrowing costs that stalls the slow recovery from the Great Recession.
"What you don't want is for markets to suddenly say, 'the economy is doing better,'" said Paul Ashworth, chief North American economist at Capital Economics, a research firm.
Life before and after thresholds
The idea of using inflation and unemployment thresholds to telegraph rate expectations initially came from Chicago Fed President Charles Evans. He spent more than a year urging colleagues it was more effective than so-called calendar-based guidance, which the Fed had adopted in 2011 with a pledge to keep rates low until mid-2013.
By late 2012, the Fed had twice revised its low-rate pledge, extending it out to mid-2015. It was then that Evans won a key convert.
Yellen, who was vice-chair at the time, worried that each shift to a later date would deliver a jolt of pessimism about the economic outlook, prompting renewed caution on hiring and spending - exactly the opposite reaction from what the Fed hoped its low-rate promise would elicit. A month after she publicly endorsed Evans' thresholds approach, citing its market-stabilising effects, the Fed adopted it.
Now, though, even Evans acknowledges that Yellen will need to consider a rewrite.
"You start writing the statement without reference to 6.5 per cent, but you find a way to mention that it will still be 'well past the time,' some language that captures that, and also the important guidance that as long as inflation is below our 2-per cent objective, we can continue to have very accommodative monetary policy," Evans told reporters in Detroit this week.
In a surprise to some, unemployment has swiftly fallen from 7.9 per cent a year ago, and from a post-recession high of 10 per cent in 2009. On Friday, the Labor Department reported the jobless rate had fallen to a five-year low of 6.6 per cent, but the fewer than 200,000 new jobs created over the past two months is insufficient to sustain the current pace of economic growth.
The quick drop in joblessness has soured Fed officials to the idea of simply lowering the unemployment threshold.
Instead, as Boston Fed President Eric Rosengren suggested on Thursday, they could stress that broader measures of the labor market - such as the number of part-time or discouraged workers, or the rate of wage growth - will play a bigger role as they mull a rate rise.
Any change to the approach could have global ramifications, given that former Chairman Ben Bernanke was a trailblazer in telegraphing policy intentions since the 2008 financial crisis.
The Bank of England followed the Fed's lead in tying a rate rise to an unemployment threshold - a policy that seems to have run its course on both sides of the Atlantic.
As they move away from that approach, though, Fed policymakers will need to take care not to roil markets.
That happened last May when Bernanke first let it be known the Fed's bond-buying programme would soon be pared; while investors have become accustomed to the idea, emerging markets sold off in the last few weeks as the US central bank made its first reductions in the monthly purchases.
"The Fed has taken the first two tentative steps in a very long journey of bringing its balance sheet down to normal," said Carl Tannenbaum, chief economist at Chicago-based Northern Trust.
"I believe that the success of that effort is going to hinge critically on the Fed's communication with markets," he said. "The Fed would like to engineer the return to normalcy in a smooth and orderly way."
