Just before the FOMC statement on September 18, I think it’s interesting to make an update of my post concerning arguments against “tapering”.
Indeed, notwithstanding the fact that the expansionary Fed policy poses risks to financial markets’ stability, especially with the increasing volume of speculative positions (corporate high yield, jumbo loans…), at least eight reasons are still legitimizing a wait-and-see policy in the short term:
1/ The lack of short-term agreement on fiscal issues, more specifically on the “continuing resolution” and the 2014 budget. Currently, Republicans insist on keeping automatic budget cuts which will take effect during the 2014 fiscal year (starts on October 1st) and will reach $109B (0.6% of real GDP).
-> Senate Majority Leader Harry Reid said last Thursday that deep divisions within the House Republican caucus are imperiling passage of a fiscal year 2014 stop-gap spending bill and threaten both a government shutdown and a default. Note that this bill would keep the government funded until Dec 15 and should include sequestration of $109 billion.
2/ The threat of automatic budget cuts, which outcome would not be known from the end of September, comes at a time when growth has been low since the beginning of the year. Indeed, even with an upward revision of the 2Q GDP to 2.5% (QoQ annualized), GDP should increase by 3.1% in 3Q and 4Q to meet the projected 2013 growth defined by the Fed in June (ie 2.45% from 2012 4Q to 2013 4Q).
-> The last statistics (August retail sales, Wholesale inventories…) suggest that actual growth (3Q) is below 2%.
3/ The signals from the residential housing market are deteriorating. The recent rise in mortgage rates (highest since April 2011) weighed very negatively on refinancing activity (13 declines recorded in the last 16 weeks) but also on new home sales (-13.4% MoM in July). There is no doubt that existing home sales should fall in August, according to the pending home sales’ decline in July (-1.3% MoM).
-> Mortgage applications decreased 13.5 percent from one week earlier, according to data from the Mortgage Bankers Association’s (MBA) Weekly Mortgage Applications Survey for the week ending September 6, 2013 (14 declines recorded in the last 17 weeks). The Refinance Index decreased 20 percent from the previous week and has fallen 71 percent from its recent peak (the week of May 3).
4/ Inflation is broadly in line (PCE inflation) or below (PCE Core Inflation) the Fed’s forecasts made in June. Anyway it remains well below the 2% target, which is the medium-term reference.
5/ Regarding the labor market, it must be recognized that since the set-up of the buyback program (September 2012), pace of nonfarm payrolls has improved whereas unemployment rate has decreased. However, the last report (August) underlines that the short term momentum of NFPs is weakening and is still below the threshold of 200K which is not a minimum acceptable for Fed:
-> Moving average 3 months: 148K
-> Moving average 4 months: 155K
-> Moving average 5 months: 164K
-> Moving average 6 months: 160K
- Also, as pointed out by the Fed members during the last Fed Minutes, qualitative indicators, namely the number of long-term unemployed (more than 27 weeks), the number of full-time jobs or the “underemployment rate”, are only improving slightly. Similarly, the decline in the unemployment rate is mainly explained by a fall of participation rate (lowest since Aug 1978) which is not a good thing.
6/ The Syrian conflict could create uncertainty to the extent that the debt ceiling has not been raised. The fact is that military action could increase public spending above expectations and therefore could reduce the time remaining to politicians to find a compromise. Currently, according to Treasury Secretary, the deadline sould be reached by mid-October.
-> A diplomatic breakthrough Saturday on securing and destroying Syria’s chemical weapons stockpile averted the threat of U.S. military action for the moment. It means that Syrian conflict is not a longer an argument against tapering.
7/ During the G20, IMF noted that currently emerging economies are seen as particularly vulnerable to a tightening of US monetary policy and recommended that policy makers be ready to handle a rise in financial instability. In this context, Fed could choose to give more time to other policy markers.
8/ Fed communaction: The Fed members have not yet defined criteria or thresholds which would impact the asset purchase program.
- Moreover, since last FOMC, almost all members (voters and non-voters) have instisted on the fact that “tapering” will be only dependent on data which were clearly weaker than expected. The last Beige Book comfirms that activity continued to expand at a modest to moderate pace during the reporting period of early July through late August.
- Finally, some people forget that voters are more “dovish” that non-voters and that they give less press interviews.
- All Fed members’ speeches concerning QE and economic activity since the last FOMC meeting (July 30-31) are available here.
To replace my argurment on Syrian conflict, I choose to focus on future changes at the head of the Fed.
8bis/ Changes at the head of the Fed in 2014. The next year, the voting members will be more “hawkish” with the arrival of Fisher (Dallas Fed President) and Plosser (Philadelphia Fed President). Therefore, knowing that committee in place in 2014 would quickly end the asset purchases program, the actual committee could delay “tapering” to compensate.