Although the central bank ultimately decided not to make any policy changes during the July meeting, the discussion underscores the challenge facing the Fed as it grapples with the best way to wind down its unprecedented stimulus of the nation’s economy. As the recovery strengthens, the Fed must find a way to withdraw its support without frightening the markets or the public, which could undo its careful work.
That delicate balance is exemplified by the reaction to the Fed’s announcement in June that it will begin scaling back its multibillion-dollar bond-buying program this year. The purchases, often referred to as quantitative easing, were intended to bring down long-term interest rates and goose the recovery. But markets panicked at the prospect of a “tapering” of bond purchases, igniting a sell-off in the stock markets and a spike in bond yields. Investors have become fixated on when the reduction will start, leaving markets jittery.
On Wednesday, the markets were on a hair trigger as traders awaited further clues about the Fed’s intentions. Stocks plunged when the documents were released, then rebounded briefly before moving back into the red. The Dow Jones industrial average closed down 0.7 percent, while the broader Standard & Poor’s 500-stock index lost nearly 0.6 percent. Yields on 10-year Treasury bonds rose 4 cents to $2.86.
The meeting minutes released Wednesday revealed that Fed officials remain divided over when to begin the slowdown. Some called for “patience” while additional economic data rolls in while others suggested “it might soon be time” to taper the purchases, according to the documents. The Fed voted at the meeting to keep its bond-buying unchanged.
“These minutes are not preordaining taper starting in September,” said Stuart G. Hoffman, chief economist at PNC Financial Services Group. “I think the Fed right now is very balanced, and the balance will tip based on what the data from the next month shows.”
Although officials did not agree on when to begin scaling back, the minutes indicated there was general consensus supporting the timeline for ending the program that was laid out by Fed Chairman Ben S. Bernanke. He has said the first reduction in bond purchases will occur this year and they will end in mid-2014, when the unemployment rate is expected to be about 7 percent. However, some officials felt too much emphasis was being placed on the level of joblessness when the program concludes.
The Fed has tried to make clear that its decisions about the path of interest rates and whether to continue bond purchases will depend on the health of the recovery. But that effort has been muddied by inconsistent economic data that do not paint a clear picture of which direction the country is headed.
Even within the Fed, there are vastly different interpretations of the data. Some officials believe that recent low inflation readings will prove temporary, while a number of others worry they reflect weak demand and could provide justification for the Fed to continue supporting the economy, according to the minutes.
The documents also show that federal spending cuts and the end of payroll tax cuts wrought more damage than some Fed members had expected, resulting in slower growth during the year’s first half than they had anticipated. While the Fed expects a faster expansion later in the year, several officials “were somewhat less confident about a near-term pickup in economic growth than they had been in June.”
Altering the thresholds for changing short-term interest rates could help offset negative reaction from the markets when the Fed begins to scale back its bond-buying. But in the minutes, officials acknowledged the difficulty in explaining changes to its thresholds. Some worried that altering the terms would make investors lose confidence in the Fed’s commitment to abide by them and weaken their effectiveness.