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The Fed sings Indigo Girls

By Mark Hamrick · Bankrate.com
Wednesday, August 20, 2014
Posted: 5 pm ET

We don't know much about Federal Reserve Chair Janet Yellen's music preferences. Nevertheless, members of the central bank's Federal Open Market Committee seem to think the economy is "Closer to Fine," to borrow the title of the 1989 indie hit by Indigo Girls. And if that's the Fed's tune, it could mean a rate hike is coming quicker than currently envisioned.

fed-blog-janet-yellen-testifies-on-capitol-hill-in-washington

© KEVIN LAMARQUE/Reuters/Corbis

The just-released minutes from the last Fed meeting indicate that policymakers "generally agreed that both the recent improvement in labor market conditions and the cumulative progress over the past year had been greater than anticipated." A small number of FOMC members appear eager to raise rates fairly soon, as they note the need "to avoid overshooting the Committee's unemployment and inflation objectives over the medium term."

Robert Brusca, chief economist with Fact and Opinion Economics, notes, "There is a group in the FOMC that thinks that the time to raise rates is now."

Confirming the Fed's view

Even so, investors sent stock prices higher upon release of the 11-page minutes document. Barring the unforeseen, the Fed is believed to be on track toward its previously-expressed timetable for a rate hike in 2015. "The minutes really reinforce what the Fed has been saying," says Brad Sorensen, Schwab’s director of market and sector research.

Key also to the outlook is how the officials view inflation, which in other times is the central bank's chief worry. Fed policymakers appear to believe inflation prospects are better aligned with their long-term outlook, having previously been worried about a downward spiral in prices. "Inflation firmed in recent months, and most participants anticipated that it would continue to move up toward the Committee's 2 percent objective," the minutes say.

Yellen speaks Friday

The Fed's summary indicates there was debate at the July meeting on "assessments of the remaining degree of labor market slack and how to measure it." In other words, the central bankers differed on how much more damage repair is needed for the job market. That included differences about whether the unemployment rate, put at 6.2 percent in July, is a sufficiently reliable gauge of the job market overall.

Chair Yellen is to further address recent developments in the job market Friday at a Fed conference in Jackson Hole, Wyoming.

Laying out a rate-raising plan

The Fed's next policy-setting meeting is set for mid-September, including a news conference held by Yellen. That will be the next opportunity for her to publicly discuss the central bank's game plan for what it calls "normalization," or reversal of the extraordinary moves taken during and after the financial crisis.

FOMC members heard a detailed presentation from Fed staff on "implementing and communicating monetary policy," once tightening commences. The minutes indicate that a primary tool for adjusting interest rates is expected to be interest on excess reserves paid by the Fed.

"The idea is that by paying (more) interest on those reserves, you essentially take them out of the system," says Scott Brown, chief economist at Raymond James & Associates.

The balance sheet issue

As for the Fed's $4 trillion balance sheet, FOMC members agreed it "should be reduced gradually and predictably."

"I don't think the Fed is worried about the size of the balance sheet at all," says Brown, despite critics' fears that it could fuel inflation. He sees no apparent shift in the Fed's timetable. Despite flapping their wings more loudly, the "hawks" pressing for a rate hike remain in the minority, and the first upward move is still set for mid-2015, Brown says.

Schwab's Sorensen says stock investors appear to be betting on a rate increase coming "April or later" -- but not this year. If the rate hike timeline were to be moved up slightly, "there might be some short-term volatility" in the stock market, he says.

Chair Yellen likes to say Fed policy is "data-dependent": in effect, retaining the possibility that things could change. It recalls the line from that same Indigo Girls' tune: "There's more than one answer to these questions, pointing me in crooked line."

Stay tuned.

Follow me on Twitter: @Hamrickisms

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