Since it is the NY Fed, headed by an ex-Goldmanite, which will ultimately be tasked with exiting 6 years of "unconventional monetary policy" - at some point during this "recovery" if not now or any time soon for that matter - it is probably best to listen to Goldman for its post-mortem on what the chairwoman did or did not say. Which is why we present a "Q&A" with Goldman's head economist, Jan Hatzius, known to occasionally exchange a sandwich and the occasional policy guidelene, with NY Fed's Bill Dudley at the Pound and Pence [10], in which he explains how Yellen managed to be both more dovish and more hawkish than the "market" expected.
From Goldman:
Our main take-away from today's FOMC meeting is that the Committee did not provide new signals about the future course of monetary policy. While the "dots" moved up a bit and Chair Yellen reiterated the data dependence of Fed policy, the Committee's forward guidance was entirely unchanged, the FOMC statement acknowledged the recent deceleration in inflation and Yellen reaffirmed her long-held view that plenty of labor market slack remains. The market reaction, therefore, likely tells us more about the market than the Fed.
Did the FOMC provide any new signals about monetary policy?
No. The forward guidance in the FOMC statement was unchanged, as the Committee kept the "considerable time" and post-liftoff guidance word for word, and Chair Yellen opened the press conference stating that the released information is "not meant to convey any change in the stance of policy." While the median of the funds rate projections (or "dots") drifted up in 2015 and 2016--by 25 basis points (bp) and 37.5bp, respectively--we would not put too much weight on this. First, the dots that most likely capture the views of the FOMC leadership--projections 4 to 6 from the bottom--moved up very slightly in 2015-16 and most forecasters had anticipated an increase. Second, the change in the dots is difficult to assess as they are now expressed as the mid-point of a range. Yellen consequently downplayed the "relatively little upward movement in the path" of funds rate projections, suggesting it is "broadly in line with what one would expect with a very small downward reduction in the path for unemployment and a very slight upward change in the projection for inflation."
Did Yellen change the meaning of "considerable time"?
No. While she refused to describe "considerable time" as a calendar commitment on a number of occasions and instead stressed data dependence of Fed policy, these statements were not materially different from her past remarks or those of her FOMC colleagues. A likely explanation is that, following her specific comments on the meaning of "considerable time" in March (widely seen as a slip), she has been trying particularly hard to discourage an excessively literal interpretation by the market at a time when the Committee itself is debating the meaning of the guidance. We continue to read "considerable time" as calendar guidance that is conditional on the economic outlook.
Is a March hike off the table?
No, but it is quite unlikely. If the recovery turns out to be significantly stronger than anticipated by the Committee, then a March 2015 hike is possible and consistent with the conditional commitment nature of the "considerable time" guidance. But if the economy evolves as expected, a March hike would be inconsistent with this guidance and therefore a real stretch. We therefore view a March hike as quite unlikely.
Did we learn anything new about Yellen's labor market views?
No. Chair Yellen's comments on the labor market leaned slightly to the dovish side in two respects. First, she stated that "to my mind, the very slow pace of wage increases does reflect slack in the labor market." Second, she continues to see a "meaningful cyclical shortfall" in labor force participation in a comment that we interpret as a "soft dissent" with the conclusions of a recent Fed staff working paper (see here for a discussion of the paper). Yellen's comments today are not surprising, as she has held these views for a long time. But they do push back against the often-heard view that she changed her view of the labor market in this summer's Jackson Hole speech. Today's comments reaffirmed her long-held view that plenty of labor market slack remains.
Has the Committee become more concerned about low inflation?
To a small degree. It was a surprise that the FOMC statement today changed its inflation assessment, describing inflation as "running below" instead of having moved "somewhat closer to" the Committee's inflation target. The FOMC's communication on inflation has flip-flopped in recent months: following upside surprises in April and May, Yellen described the firming in inflation as "noise" in the June press conference; the July FOMC statement then upgraded inflation language after the latest inflation news had actually surprised on the downside; and now the Committee downgraded its description of inflation in response to today's surprisingly low August CPI print. If the eventual liftoff occurs materially later than the mid-2015 date currently envisaged by the committee, a bigger-than-expected inflation undershoot is probably the most likely culprit at this point.
How concerned is Yellen about dissents?
Not that much. Yellen stated that it is "very natural that the committee should have a range of opinion" and that she does not consider two dissents to be an "abnormally large number." She stressed that today's statement was adopted by "an overwhelming majority."
Did we learn anything new about the exit?
A couple of small things. While the broad exit strategy was announced broadly as expected, a couple of minor details emerged. First, Yellen stated that the Fed’s balance sheet might be returned to a normalized level by the end of the decade. This suggests that the longer-run size of the balance sheet could be somewhat bigger than a simple extrapolation of the pre-crisis trend would suggest. Second, Yellen acknowledged the possibility that reinvestments could be "tapered," a view that Boston Fed President Rosengren has promoted for some time but that has until now not shown up in communication by the Fed leadership. Third, the New York Fed announced changes to the fixed-rate reverse repo facility testing. Specifically, a total cap on the size of the facility will be introduced, likely a nod to officials worried about financial stability risks.
Why did the market sell off?
The information released today was--except for the dots--at least as dovish as expected. The selloff in the Treasury market therefore likely tells us more about the market than the Fed. That is, market expectations for the meeting were probably not as hawkish as suggested by pre-meeting surveys.
Does the market have a very different view from the FOMC?
Only to a limited degree. Yellen stated that it is not "completely clear that there is a gap" between market views and the views of the Committee. As a potential explanation she stressed that FOMC participants submit modal forecasts for the funds rate (i.e. the most likely outcome) while market pricing is probability weighted. It is interesting to note that this difference is only an explanation to the extent that FOMC participants generally see downside risk to their funds rate projections. Another explanation for the divergence between the dots and market pricing is, of course, that the leadership of the committee is likely to have lower projections than the median dot.
What's next on guidance?
Provided the data continue to match expectations, we would expect the Committee to drop the phrase “after the asset purchase program ends” at the October meeting but keep the “considerable time” language and thereby reaffirm the existing guidance. The Committee could then decide in December whether to extend the “considerable time” guidance further, move to weaker wording such as “patient,” or go the more data-dependent route proposed by Rosengren and others in recent weeks.