Alex Wong
This week, the Federal Reserve decided not to raise its policy rate of interest.
This week, the Federal Reserve’s quantitative tightening continued.
In this past banking week, the banking week ending September 20, 2023, the amount of securities held outright by the Fed declined by $26.6 billion.
Since the end of August, the banking week ending August 30, 2023, the amount of securities held outright by the Fed declined by $50.6 billion.
Since the period of quantitative tightening began on March 16, 2022, the amount of securities held outright by the Fed declined by $1,033.0 billion or just over $1.0 trillion.
If one counts the accounting adjustment that goes with the securities maturing off the Fed’s balance sheet, the accounting for unamortized premiums or discounts, the total decline in the Fed’s securities totals $1,096.2 billion or almost $1.1 trillion.
The Federal Reserve is doing its job, as it said it would, in terms of reducing the size of the securities portfolio it holds on its balance sheet.
It should be noted that the Fed used another account, the Reverse Repurchase Agreement account, to help manage commercial bank reserves. Reverse repurchase agreements are short-term agreements in which the Federal Reserve sells securities under an agreement to repurchase them after a short period of time.
The Fed uses this account to smooth out movements in the short-term money markets and give commercial banks a place to closely manage their balance sheets.
Since March 16, 2022, when the account totaled about $1.86 trillion, this account has been heavily used and reached a peak level of about $2.7 trillion at one time. In the latest banking week, the account dropped to approximately $1.80 trillion, the lowest it has been since before March 2022.
This is very important, because, the use of this account was offsetting the effort for the Fed to reduce the level of its securities purchased outright.
Having reverse repurchase agreements fall below their March 16, 2022 level is a very significant event and adds to the feeling that the Federal Reserve is moving appropriately to reduce the use of securities to support commercial bank reserves.
We need to continue to watch this account to see if this downward movement continues into the future. This will be very supportive of the Federal Reserve’s efforts to continue to tighten up on the commercial banking system and achieve its goal for price inflation.
Although the Federal Reserve did not change its policy rate of interest this week, the leadership sent out signals that there still may be more rate increases in the future.
Federal Reserve leaders are trying very, very hard to not “back off” their efforts too soon and lose the ground that they have already made in reducing the inflation in the U.S.
Chairman Powell says over and over again that what the Fed does with its policy rate will depend upon the times and upon the statistics.
Some analysts are still predicting that the Federal Reserve will raise its policy rate of interest once more this year.
We shall see.
The Future
At the latest meeting of the Federal Open Market Committee meeting, the Federal Reserve released a new set of forecasts concerning the future of the U.S. economy. You can find the data here.
The picture is of a very placid narrative that brings the Federal Reserve right into its goals and objectives for the future.
The future of inflation?
Well, the Federal Reserve thinks that the PCE (Personal Consumption Expenditures) rate of inflation will come in at 3.3 percent for 2023.
Then it will drop to 2.5 percent in 2024 and then to 2.2 percent in 2025. The PCE rate of inflation will then drop to 2.0 percent and stay there.
This is a very comforting picture.
The disconcerting story is the one about the rate of growth of real GDP.
The Fed sees the rate of growth of real GDP for 2023 will be 2.1 percent and then drop to 1.5 percent in 2024. In 2025 the rate of growth will rebound to 1.8 percent and will then remain at 1.8 percent for the future.
This picture is so like the numbers in the economic recovery period following the Great Recession.
For the full decade or so, following the conclusion of the Great Recession, the annual compound rate of growth of real GDP came in at 2.2 percent. This was the lowest growth rate for any period of economic recovery since the Second World War.
We are learning more and more about why the economic recovery was so tepid.
The problem was in the rate of growth of labor productivity. It was a supply-side problem.
I have addressed this issue of such a modest rate of growth of labor productivity in two recent posts: “The Debt Battle is Irresponsible” and “Labor Productivity: The Problem.”
Greg Ip also addressed this problem in an article, “American Labor’s Real Problem: It Isn’t Productive Enough,” in The Wall Street Journal.
The Federal Reserve seems to be suggesting that the problem of tepid labor productivity growth will continue on into the 2020s.
Like the decade of the 2010s, the rate of inflation will be low, but the rate of economic growth will also be slow.
One other “good” thing in the projections is that the unemployment rate will stay right around “full employment.”
For 2023, the Fed sees the unemployment rate hanging around 3.8 percent. It rises to 4.1 percent for 2024 and 2025, but then drops back to 4.0 percent.
Overall a pretty good picture for the future if it can be achieved.
At least, the Federal Reserve can say that it hit its targets…of inflation, 2.0 percent, and of unemployment, full employment.
Thus, it seems, the Federal Reserve will have done its job.
As far as the Fed’s policy rate of interest…the forecast for 2023 is 5.6 percent. The current effective Federal Funds rate is 5.33 percent.
So, it looks as if Federal Reserve officials believe that there will be more increases coming in the Fed’s policy rate of interest.
The Future
If the Federal Reserve hits this forecast then, I think, we can all cheer.
The economy slows, but we only have a “soft” landing as far as economic performance is concerned.
The Fed will hit its inflation target and unemployment will remain around full employment.
Sounds pretty good.
I think investors would be very happy if the economy performed in this way.
I think President Biden and his administration would be very happy with these results given the 2024 election coming up.
