Caroline Baum: How to read between the lines of the Fed’s rate-cut statement

What does Jerome Powell see for the future? Don’t hold your breath waiting for a big revelation on Wednesday.Unless you have been summering on the International Space Station, you should have heard that the Federal Reserve is planning to lower interest rates by 25 basis points at the conclusion of its two-day meeting on Wednesday. Financial futures markets have been telegraphing an increased probability of a July rate cut, not to mention a series of additional cuts by year-end, since early June. Economic forecasters reluctantly got on board. And Fed Chair Jerome Powell did nothing to defuse those expectations in either congressional testimony earlier this month or a speech at the Group of Seven meeting in Paris two weeks ago. Also: Five things to watch from this week’s crucial Fed meeting The only suspense regarding this week’s meeting, in fact, is what the Fed will say about future actions. After being chastened by the stock market for its December rate hike, the Fed is gun-shy about doing anything to upset markets. Not that appeasement is part of the Fed’s dual mandate of maximum employment and stable prices. But given existing trade tensions and risks to global growth, the last thing the Fed wants to do is to cause stock prices to take a dive, thereby tightening financial conditions. What to expect So here’s a short list of what, and what not, to expect from the Fed at this week’s meeting. There will be no suggestion that a 25-basis-point reduction in the federal funds rate to 2%-2.25% is a case of “one and done.” Even if the Fed believed that, it would be disinclined to say so. Also read: Trump says he wants more than ‘small’ Fed rate cut What about reiterating the buzzwords and phrases the Fed has tested in recent months, such as saying the Fed can afford to be “patient?” Patience is a virtue, to be sure, but passé as a Fed mantra: a relic of the Fed’s about-face in early January, when Powell was forced to do penance for saying that balance-sheet reduction was on “automatic pilot” and for forecasting additional rate hikes this year. How about “flexible?” Nah. That leaves too much, shall we say, flexibility? Flexible is defined as “a ready capability to adapt to new, different, or changing requirements,” according to Merriam Webster. It also implies blowing in the wind, wafting in either direction: the last thing policy makers will want to convey. More than likely, Powell will keep things open-ended and vague, opting to reiterate the boiler plate from the committee’s June 19 statement:That in light of increased “uncertainties” about the economic outlook and “muted inflation pressures, the Committee will closely monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion.” If you were hoping for something more specific, don’t hold your breath. In other words, the Fed will do “whatever it takes” — which was European Central Bank President Mario Draghi’s 2012 commitment to preserving the eurozone’s common currency, the euro

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  — to keep the U.S. economy in what several Fed officials have described as “a good place.” On that score, we may hear some reference to a rate cut as a form of “insurance,” similar to the pre-emptive action the Fed took in 1995 and 1998 to sustain the expansion. Powell’s principles Powell has already outlined a set of guiding principles. First, the Fed will act to offset the risks from trade tensions, which are curtailing manufacturing activity and business investment and slowing global growth. Second, having abandoned “transitory” factors to explain the chronic, sub-2% inflation, the Fed will act to prevent low inflation from becoming embedded in inflation expectations. Third, while not abandoning its Phillips Curve framework, the Fed is open to the benefits of a tighter labor market, which offers opportunities for unemployed and under-employed workers to earn a decent living. As Powell said in his congressional testimony, “to call something hot, you need to see some heat.” The best reason for cutting interest rates may not merit a mention, unless Powell is pressed on the subject by reporters at the post-meeting press conference: the inverted yield curve. Last year, some Fed officials said they were disinclined to allow the yield curve, or term spread, to invert, given its superlative predictive powers. Once the yield on the 10-year Treasury note

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 fell below the policy rate in May, however, inversion became a moot point. Instead, inversion was a reflection of the Fed’s interventions, or large-scale asset purchases, that distorted the curve. (Cue “this time is different.”) Powell will no doubt stress that reliable Fed watchword, ensuring us that Fed policy is data dependent. When, pray tell, has policy not been data dependent? Yes, the Fed uses econometric models to predict the future, but if the models were any good, there would be no business cycle. The central bank could always act to pre-empt any recessionary impulse or inflationary outburst that posed a threat to the economy. Still, current economic data, released with a lag and revised ad nauseam, carries a lot of weight with policy makers. A strong June employment report upended concern that May’s weakness was a canary in the coal mine. It assuaged fears that the labor market, the most blatant indicator of a strong economy, was struggling. Monetary policy, of course, is supposed to be forward-looking — and more so now than ever, according to New York Fed President John Williams. In a July 18 speech at an academic conference, Williams said that the Fed needs to lower interest rates more quickly, and leave them lower for longer, on any signs of economic distress when the policy rate is already close to zero. Williams’ comments created a kerfuffle in financial markets, which raised the odds of a 50-basis-point cut, before the New York Fed’s press office was forced to clarify that the speech was academic in nature, not a forerunner of any policy action. But it does underscore the challenges the Fed and other central banks face in a world where the neutral interest rate required to keep the economy growing at its non-inflationary potential has fallen to rock-bottom levels. As it is, the U.S. policy rate is the highest in the developed world. Interest rates are a “relative, not an absolute, game,” says analyst Jim Bianco, president of Bianco Research. Expect some dissents Not all Fed policy makers are on board with rate cuts. Two current voting members on the Federal Open Market Committee — Kansas City Fed President Esther George and Boston Fed President Eric Rosengren — could end up dissenting from any decision Wednesday to lower the funds rate. Several non-voting regional bank presidents — Atlanta’s Raphael Bostic, Cleveland’s Loretta Mester, Philadelphia’s Patrick Harker and Richmond’s Thomas Barkin — have said in recent weeks that they see no need to adjust interest rates at this time. St. Louis Fed President James Bullard dissented from the June decision to hold rates steady, preferring a 25-basis point cut. That was the first dissent of Powell’s tenure as Fed chief. Given the unforced communications errors in recent months, the Fed will want to be careful in terms of what it says and how it says it. And even then, the best laid plans can go awry. Sometimes it makes one long for the days when less was more, or at least less likely to be misinterpreted.

                  

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