Authored by Knukles,
There have been very few times where in my 40+ years of capital markets participation that I’ve strongly believed that we have witnessed a significant, material, public but seemingly under-discussed, under appreciated watershed event that will over the next several years, impact capital markets in a profound manner. The recent announcement by the FED that they were to pursue the future course of monetary policy with direct regard to a specific, numerical level of unemployment in my mind, represents exactly one of those rare events.
In the past, the Federal Reserve has managed monetary policy with respect to what is generally referred to as a “dual” mandate which however, is actually three as proscribed by the Federal Reserve Act (“Act”). Specifically, they are; “maximum employment, stable prices, and moderate long-term interest rates.” In the past, the projections of, the targeting, adherence to and most importantly linkages between the current as well as forecasted and actual resultant levels of monetary accommodation and three mandates were left to the FED’s Board of Governors’ Federal Open Market Committee (FOMC) to decide. Whether by qualitative or quantitative tools or reference, the process was generally accepted as an art form manageable within human discretionary bounds, never linked directly to fixed quantitative mandated economic targets. Indeed, indicia of monetary policy whether the overall general level of interest rates, a specific rate such as the Federal Funds target or Discount rate or monetary aggregates such as the targeting of the monetary base, adjusted reserves or money stock measures have been actively and intensively utilized in the past.
But not “hard” broad economic data such as employment, unemployment, consumption, savings, gross domestic product or net domestic investment. The closest the FED has come of recent vintage was the formal adoption of a 2% Personal Consumption Expenditures rate said to be consistent with statutory mandates in its meeting in January, 2012. And with respect thereto, the linkage between Open Market Operations in terms of frequency and magnitude again remained the discretionary province of the FOMC via the Open Markets Desk at the Federal Reserve Bank of New York with respect to the purchase and sale of financial instruments.
However, on December 12, 2012, the Federal Reserve announced that it would continue to proactively pursue a highly expansive monetary policy by keeping short-term interest rates as evidenced by the targeted Federal Funds Rate between 0.25% and 0%, until the civilian unemployment rate dropped to 6.5%. This is the first time in the post war period that there has been a direct linkage between a stance of monetary policy, translating through a market based rate, effecting supposed economic activity through a tremendously complex channel of bank and shadow banking, domestic and foreign relationships with borrowers and a single defacto measure of economic activity, in this case human resource utilization as measured by unemployment. While admiringly noble, of a broad laudable, socially responsible nature, politically correct, seemingly with caring intent and closely adhering to the employment mandate as established by the Act, the goal opposite Federal Reserve Policy is amorphous not only due to the complexities and unmanageability of second, third and however many ongoing orders of direct and casual relationships, but it is politically game-able. Indeed, another triumph of form over substance wherein appearances of a literally wondrous intent might soothe the fevered brows of the public but remain entirely within the manipulative province of the data managers.
The reason is that the entire relationship is dependent upon the single targeted number. That of “unemployment”, a largely undefined term with respect to the FED’s December 12th minutes. Within that preview, it would not be illogical to assume that the rate of unemployment cited by the FED is the one and same “unemployment rate” as calculated by the US Department of Labor’s Bureau of Labor Statistics. Without risking sounding in any way shape or form as negative or impertinent, leave it be merely pointed out that a large and growing number of observers have of late, questioned the periodic revisions, seasonal adjustments, and benchmark revisions to the unemployment rate in large part but not exclusively due to the composition of the American workforce and participants therein as defined by factors such as those employed, those looking for employment, those not looking and the workforce participation rate. Further, many of the same observers suspect or believe that periodic adjustment to such numbers may be socially and or politically motivated thereby resulting in data not as reflective of actual market conditions as represented.
Now, for sake of intellectual stimulation alone, if one were to assume such to be the case, then one might easily conclude that politically-motivated manipulation of the unemployment rate calculation might cause the number to drop toward a more socially acceptable level, but remain above the Fed’s threshold of 6.5%, which could result in a more expansive monetary policy than otherwise might be reasonable not withstanding current Quantitative Easing effects. After all, incumbents seem to have historically preferred to face the electorate with easier money and low interest rates accompanied by happy employment statistics, no?
Indeed, while the optics of the recent decision to accept an active target of the unemployment rate might be well meant, socially responsible and politically correct, the dependency upon the single datum construct already of a highly controversial nature may well likely reduce further the credibility of the Federal Reserve’s monetary efforts, thereby leading to slower economic growth, hiring and economic well being as adverse unintended consequences.