The Federal Reserve cited an improving economy Wednesday as it ended its landmark bond-buying program and pointed to gains in the job market – a key condition for an eventual interest-rate hike.
The Fed did reiterate its plan to maintain its benchmark short-term rate near zero “for a considerable time.” Most economists predict it won’t raise that rate, which affects many consumer and business loans, before mid-2015.
But in a statement ending a policy meeting Wednesday, the Fed noted that the job market is strengthening. Its statement drops a previous reference to “significant” in referring to an “underutilization” of available workers.
Instead, the Fed said the excess of would-be job holders is “gradually diminishing.” It also noted solid hiring gains and a lower unemployment rate, now 5.9 percent. One of the Fed’s major goals is to achieve maximum employment, which it defines as an unemployment rate between 5.2 percent and 5.5 percent.
That all suggested that the Fed is looking toward an eventual rate hike.
The Fed repeated previous language that the likelihood of inflation running persistently below its 2 percent target has diminished, even though inflation is being slowed by lower energy prices and other factors. The Fed noted that expectations for inflation have remained stable, something it strives to achieve.
On balance, economists saw the Fed’s statement as showing less concern about unusually low inflation, which has helped delay a rate increase. Some analysts said the positive market reaction Wednesday suggested that investors saw the Fed statement as at least setting the stage for rate hikes starting sometime next year.
David Jones, chief economist at DMJ Advisors, said he was struck by the absence in the statement of any mention of global economic weakness, including the threat of another European recession.
Conservative critics of the bond-buying program hailed the move to end the purchases, a step they saw as long overdue.
The bond buying “has overstayed its welcome by years and by trillions” of dollars, House Financial Services Committee Chairman Jeb Hensarling, R-Texas, said in a statement.
Michael Hanson, senior economist at Bank of America Merrill Lynch, said the Fed still appears likely to put off any rate increase until at least mid-2015.
“This isn’t the Fed rushing to the exits,” he said.
Hanson noted that while the Fed kept its “considerable time” phrasing, it added language stressing that any rate increase would hinge on the economy’s health. Previously, many analysts had interpreted the “considerable time” phrase to mean the Fed wouldn’t raise rates for a specific period after it ended its bond purchases.
The Fed’s statement was approved 9-1. The one dissent came from Narayana Kocherlakota, President of the Fed’s regional bank in Minneapolis. He contended that the Fed should have signaled its intention to maintain a record-low benchmark rate until the inflation outlook has reached the central bank’s 2 percent target. And he argued that the Fed should have continued its bond purchases at the current pace.
Kocherlakota is considered one of the Fed’s “doves” – officials who are more concerned about unemployment than are “hawks,” who worry more about the risk of high inflation. At the September meeting, two “hawks” – Presidents Charles Plosser of the Philadelphia Fed and Richard Fisher of the Dallas Fed – had dissented. On Wednesday, they voted for the statement.
The U.S. economy has been benefiting from solid consumer and business spending, manufacturing growth and a surge in hiring that’s reduced the unemployment rate to a six-year low. Nevertheless, the housing industry is still struggling, and global weakness poses a potential threat to U.S. growth.
Fed Chair Janet Yellen has stressed that while the unemployment rate is close to a historically normal level, other gauges of the job market remain a concern. These include stagnant pay; many part-time workers who can’t find full-time jobs; and a historically high number of people who have given up looking for a job and are no longer counted as unemployed.
The Fed’s decision to end its third round of bond buying had been expected. It has gradually pared the purchases from $85 billion in Treasury and mortgage bonds each month to $15 billion. And the Fed had said it would likely end the program after its October meeting if the economy continued to improve.
Even with the end of new purchases, the Fed’s investment holdings stand at $4.5 trillion – more than $3 trillion higher than when the bond purchases were launched in 2008, at the height of the financial crisis. The Fed has said it won’t begin selling its holdings until after it starts raising short-term rates.