Wall Street expects the Federal Reserve to announce the first reduction in the pace of monthly bond purchases it makes under its quantitative easing (QE) program at the conclusion of its FOMC monetary policy meeting Wednesday.
Right now, the Fed buys $45 billion in U.S. Treasuries and $40 billion in mortgage-backed securities each month – $85 billion of bonds in total – in a bid to stimulate the American economy. The consensus on the Street is that the Fed’s first “tapering” of QE will consist of a $10 billion reduction in monthly purchases, bringing the monthly total to $75 billion.
The Fed has maintained ever since the tapering discussion began early this year that its decision to begin this process of winding down QE is “data-dependent” – in other words, as long as the economic data continue to show improvement in the health of the American economy, the Fed’s plans for tapering remain on track.
Yet the data – especially in the labor market, where the Fed’s focus lies – have been disappointing in recent months. The U.S. economy added only 169,000 workers to nonfarm payrolls last month, below consensus estimates for 180,000. July payroll growth was revised down to 104,000 from 162,000.
In reality, the Fed may have several reasons to begin scaling back QE that have little or nothing to do with improvements in the labor market, despite what the central bank says.
1. Frothy markets.
One is the risk of financial instability resulting from asset bubbles created by over-accommodative monetary policy. FOMC members flagged this as a potential issue in their April 30-May 1 meeting, according to the minutes from that meeting.
“At this meeting, a few participants expressed concern that conditions in certain U.S. financial markets were becoming too buoyant, pointing to the elevated issuance of bonds by lower-credit-quality firms or of bonds with fewer restrictions on collateral and payment terms (so-called covenant-lite bonds),” read the minutes. “One participant cautioned that the emergence of financial imbalances could prove difficult for regulators to identify and address, and that it would be appropriate to adjust monetary policy to help guard against risks to financial stability.” >> Read More