On Wednesday afternoon, the Federal Reserve released the minutes of its March meeting in which it established a new framework for deciding when to raise its benchmark interest rate for the first time since 2006.
Previously, the central bank had vowed to keep the federal funds rate at zero at least until the unemployment rate hit 6.5 percent or inflation rose above 2.5 percent. But with the jobless rate hovering near that level, officials realized they needed to update their goal posts. At the March meeting, they decided to replace the quantitative guidance with vaguer wording “assessing progress – both realized and expected – toward its objectives of maximum employment and 2 percent inflation” that includes readings on the health of the job market, inflation and financial developments.
The minutes provide a window into how officials arrived at that language. Here’s our breakdown of the debate:
1. The Fed met in a secret video conference!
Members of the Fed’s policy-setting committee held a rare video-conference meeting on March 4, two weeks before their official gathering in Washington, to hash out their ideas. Here are some that ended up on the cutting room floor:
- Linking the length of time that the fed funds rate stays at zero to the length of time a “complete recovery” of the labor market would likely take. (Sounds like calendar-based guidance to me …)
- Set a specific target for real GDP growth
- Lower the unemployment threshold (We’re looking at you, Minneapolis Fed President Kocherlakota)
- Set explicit quantitative criteria for a range of labor market variables
Two other points brought up during this discussion bled into the official meeting later in the month: the problem of low inflation and how interest rates should rise after the first hike. These debates could provide more insight into how the central bank is thinking about the beginning of the end of its easy-money era.
2. Some wanted to promise to fix inflation that is too low.
A couple of committee members pushed for language explicitly stating that the Fed would keep interest rates low if inflation remains “persistently below” its longer-run 2 percent goal. So-called low-flation has become one of the most puzzling problems of the slow recoveries in developed economies. Several Fed officials, including St. Louis Fed President James Bullard, have argued that the central bank should be as forceful in defending its target when inflation is undershooting as when it is overshooting. Kocherlakota dissented from the committee’s vote at the meeting because he was worried it undermined the Fed’s commitment to meeting its target.
The proposal was eventually discarded, as most members believed that investors and the public already understood that the Fed recognizes that persistently low inflation could hurt the economy.
3. Should the Fed have held off on describing the path of future rate hikes?
Several people suggested that the Fed not try to bite off too much in one statement. They argued that the statement should focus more exclusively on how the Fed is thinking about when to raise rates for the first time – not how it will address subsequent increases.
Think of the argument as: Why now? Why not wait and talk about it some more since the liftoff for rates is still far away?
The counterargument won out: Financial conditions depend on both the length of time that rates will remain at zero and the expected path of future increases. There was also the practical matter of the post-meeting press conference, when newly minted Fed Chair Janet Yellen would surely be asked about this issue, so they might as well hash out an answer now.
4. Here's a stab at explaining why longer-run rates would still be so low.
The Fed’s economic projections released at the meeting show several officials believe interest rates will be lower than the normal level of 4 percent even in the longer run. Investors are still trying to understand why. Officials discussed several reasons during their meeting: Households still spooked by the financial crisis are saving more than they used to, both in the United States and abroad; the generically worded “demographic changes”; slower growth in potential output; and ongoing credit constraints.
5. Good job, chair!
The minutes give Yellen props for not stirring the waters during her first testimony on Capitol Hill. Obviously, they were written before her stumble during the press conference that followed the meeting.
“The Monetary Policy Report and Chair Yellen’s accompanying congressional testimony in February were viewed as emphasizing continuity in the approach to monetary policy, solidifying expectations that the pace of the Committee’s asset purchases would be reduced by a further $10 billion at each upcoming meeting absent a material change in the economic outlook.”