Today's release of the FOMC's minutes should be helpful in gauging the near-term monetary policy outlook. Goldman's Jan Hatzius (who just cut his Q2 GDP outlook to a way below consensus +1.3%) believes they will confirm his expectations, for the July 31-August 1 meeting, of an extension of forward rates guidance to 'mid-2015', but no move to further asset purchases yet (not expecting NEW QE until late 2012/early 2013). In the minutes, Hatzius notes four specific issues to focus on: how many FOMC members expect further eventual easing, and in what form; how close the committee was to either doing more or less than Twist 2 at the June meeting; how much discussion there was of qualitative changes in the forward guidance; and how much more negative the Fed staff has become about the economic outlook. In other words, the minutes may provide more information about whether the weak data that have arrived since June 20 - another subpar payroll gain of just 80,000 and sharp declines in high-profile business surveys such as the manufacturing ISM and the Philly Fed - are likely to be sufficient to trigger additional moves.
Goldman Sachs: FOMC Minutes Preview - How Close?
The minutes of the June 19-20 Federal Open Market Committee (FOMC) meeting and the accompanying Summary of Economic Projections (SEP) are likely to answer some important open questions about the committee's willingness to provide additional monetary policy accommodation over the next few months, following the turn to "Twist 2" at the last meeting. This information will be particularly useful for gauging the near-term policy outlook because there is not much new information about the economy on the calendar before August 1.
We will be looking for answers to the following specific questions:
1. How many FOMC members (voters and nonvoters) have incorporated additional balance sheet action in their baseline for the economy, and how many view such action as "possible"? Answers to these questions will appear in two parts of the documents released on Wednesday. The expectations of the 12 voting committee members will be summarized in the minutes under the headline Committee Policy Action, while the expectations of the full list of 19 meeting participants will be summarized in the SEP. In the April minutes, no voting members had incorporated additional easing (which presumably included both balance sheet action and communication) into their baseline outlook, although "several" thought that it could become necessary if the growth and/or inflation surprised on the downside. In addition, the SEP revealed that one participant--probably Boston Fed President Rosengren--was looking for additional balance sheet action in his baseline outlook, and "some" thought balance sheet action could become necessary.
Now that the committee decided to ease in June, we expect the June minutes and SEP to reveal an increase in the willingness to supplement this move with further easing. Our best guess is that the minutes will reveal that "a few" voting members had incorporated further eventual easing into their baseline outlook and "others" indicated openness to further easing. We also expect the SEP to reveal similar views among the broader group of voting and nonvoting participants (though perhaps with an indication that the numbers are a bit larger). This would be similar to the language used at the January 24-25 meeting.
2. Was the committee's decision to extend Operation Twist a close call, and in which direction? Prior to the June meeting, the forecasts in the market ran the gamut from no easing to balance sheet expansion with mortgage purchases. In the end, the committee chose to extend Operation Twist, though with a larger duration removal than expected by most forecasters in the twist extension camp prior to the meeting ($300bn of 10-year equivalents vs. expectations of $150-$200bn). The discussion under the headline Committee Policy Action should provide important insight on how close the committee was to doing more, which in turn would provide hints as to how much new information may be needed in order to see additional easing on August 1. Of course, it is also possible that the committee was "grudging" in deciding on Twist 2, which would at the margin have the opposite implication.
3. How much discussion was there about qualitative changes in the forward guidance? One argument against our expectation that the guidance will be pushed out to mid-2015 on August 1 is that Fed officials may be mulling more fundamental changes in the form in which it provides guidance to future monetary policy, that deciding on these changes would take more time, and that they may not want to make a change in the date-based guidance for just a short interim period. In the April minutes, there was a--sparsely described--staff presentation on "monetary policy under alternative scenarios" which suggested that the committee may want to publish some information about its reaction function (or the individual reaction functions of the members/participants) with respect to changes in the economic outlook. Some market participants believe that forward guidance will ultimately be provided in reaction function terms, as opposed to the current date-based form; in fact, some of the "unconventional unconventional" policy options that we have discussed in past research is just a particularly forceful version of this approach. However, we suspect the committee is not ready for such a fundamental shift and expect the date-based guidance to be retained (though extended) in the near term.
4. How much more negative about the economy has the staff become? At the April meeting, the discussion under the heading Staff Economic Outlook revealed that revealed slight upward revisions to the staff's growth and inflation forecasts from the March meeting. The staff's absolute forecasts are harder to discern from the purely qualitative discussion, but we suspect that the discussion in the April minutes of "accelerat[ing]" growth and "decreas[ing] slack" will be downgraded somewhat in the June minutes. Given the importance of the staff forecast for decision making among the Fed leadership, sharp downgrades in the language (and thus presumably the quantitative forecast) would make additional easing in the near term more likely. The description of the inflation outlook will also be interesting given the sharp drop in energy prices, headline inflation and some measures of underlying price pressures since April; big downgrades to the inflation outlook would likewise support the case for more easing.
The key way in which the minutes could shift our assessment is by clarifying how willing Fed officials appeared, given the information set available as of June 20, to supplement Twist 2 with further easing moves in the near term. In other words, the minutes may provide more information about whether the weak data that have arrived since June 20--another subpar payroll gain of just 80,000 and sharp declines in high-profile business surveys such as the manufacturing ISM and the Philly Fed--are likely to be sufficient to trigger additional moves.