In our view the potential costs have crossed the potential benefits. There is a high probability that the Federal Reserve is so confident in its ‘abilities’ that it has become complacent to the long run potential risks, and is staying too accommodative, too long.
The Federal Reserve has a ‘dual’ mandate to promote the goals of maximum employment and stable prices. The ‘maximum employment’ goal is difficult to define – but the unemployment rate as illustrated by the household survey has dropped to 6.1% – well below peak unemployment during the crisis of 10.1% and ahead of the Feds recent forecast by six months (Chart below shows US Unemployment, source: multpl.com, U.S. Bureau of Labor and Statistics). Though not a desired level, it most certainly falls in the normal category when looking back over the last half century. Additionally, wages are beginning to lift at the same time that consumer prices are rising to the 2% medium term inflation target the Fed had set as a goal, more quickly than anticipated.
U.S. Unemployment Rate (January 1950 – June 2014):
In today’s Federal Open Market Committee statement, the Fed said it will continue to cut the level of asset purchases to $25 billion a month of mortgage backed and Treasury securities, slowing the rate of growth, but still increasing the size of the Feds balance sheet. They also stated: “The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.”
The Fed has to ask itself; What is more ‘out-of-norm’ – the economy, or our policy to address the economy? I think the answer now is without a doubt, the Fed’s policy… If that is in fact true, then any benefits the economy might see by a continually hyper accommodative monetary policy are not commensurate with the risks that a prolonged out-of-the-norm policy will have on creating long run, unintended risks.
Adjusted Monetary Base as proxy for Fed Balance Sheet Assets: