Earlier this week, US Federal Reserve chairwoman Janet Yellen presented her semi annual monetary policy report testimony to Congress.
The media scrutiny was, predictably, intense. Investors strained their ears trying to figure out the answer to that all-important question – when is the US going to raise interest rates?
Well, you won’t get the answer to that burning question, but Yellen’s testimony did provide three key takeaways:
1. Watch out for one key word in future statements
From all the ‘expert’ dissection of what Yellen said, it all boils down to this: watch out for the word ‘patient’.
Apparently, the existence of the ‘patient’ in Fed talk indicates, loosely, that the central bank will wait for at least two scheduled meetings before taking any action.
“The FOMC’s assessment that it can be patient in beginning to normalise policy means that the Committee considers it unlikely that economic conditions will warrant an increase in the target range for the federal funds rate for at least the next couple of FOMC meetings,” Yellen said in her prepared statements.
However, Yellen did warn against reading too much into any change in the forward guidance – the verbal tool that a central bank uses to provide indications about what lies ahead for monetary policy direction – when it happened.
“..it is important to emphasize that a modification of the forward guidance should not be read as indicating that the Committee will necessarily increase the target range in a couple of meetings.
“Instead the modification should be understood as reflecting the Committee’s judgment that conditions have improved to the point where it will soon be the case that a change in the target range could be warranted at any meeting,” Yellen’s statement noted.
To be patient or not to be patient, that is the question then Yellen will seek to answer in coming months.
2. The roadmap to a higher rate regime is already there
In recent days, Yellen and Fed vice-chairman Stanley Fischer have been repeating the same message in recent weeks: there is a plan on how the Fed will move from an ultra-low interest policy regime to one with mildly higher rates.
“The FOMC intends to adjust the stance of monetary policy during normalization primarily by changing its target range for the federal funds rate and not by actively managing the Federal Reserve’s balance sheet,’” Yellen said in her testimony.
“The primary means of raising the federal funds rate will be to increase the rate of interest paid on excess reserves. The Committee also will use an overnight reverse repurchase agreement facility and other supplementary tools as needed to help control the federal funds rate.”
That’s the same message Fischer outlined in his recent speech.
3. Don’t expect the Fed to sell the assets it bought via QE in a hurry
The third takeaway is that the mammoth pile of assets accumulated by the Fed under its various QE programmes will remain on the balance sheet for quite a long time.
Until the end of the maturities of those assets, in fact, according to Fischer. “…cumulative repayments of principal on our existing securities holdings from now through the end of 2025 are projected to be about $3.2 trillion.
As a result, when the FOMC chooses to cease reinvestments, the size of the balance sheet will naturally decline, with a corresponding reduction in reserve balances,” Fischer noted in his speech.
To sum up, a baby step towards higher interest will happen at some point in 2015. But not much else.
Nevertheless, keep in mind that the US is the one of the few countries contemplating a hike in interest rates, even as the rest of the world still continues to cut rates and implement other stimulus measures. Japan, China, the eurozone are among the major economies still in easing mode.