FED up for a new fight

K.T. Jagannathan

Well, visibility remains unclear. And, the uncertainty is at an elevated level. The message appears clear, though. Policy-setters at the Federal Reserve Bank have veered round to the view that the U.S. central bank may have to move further down to ease the monetary policy to pull the virus-hit economy out of the quick-sand and nurse it back to reasonable health.

A reading of the minutes of the meeting of its policy-setting committee held last month, which were released on Wednesday, indicates that the road to recovery could yet be a very long one.

“The uncertainty surrounding the economic outlook remained very elevated, with the path of the economy highly dependent on the course of the virus and the public sector’s response to it,” the minutes from the meeting said quoting the views of participants.

The policy-setters saw several risks to the outlook, including the possibility of a fresh wave of virus outbreaks. This could, in their view, extend the economic disruptions and result in a protracted period of reduced economic activity. This is bound to have a cascading effect, forcing banks and other lenders to tighten credit conditions with consequential negative fall-out on lending to households and businesses. “Other risks cited included the possibility that fiscal support for households, businesses, and state and local governments might not provide sufficient relief of financial strains in these sectors and that some foreign economies could come under greater pressure than anticipated as a result of the spread of the pandemic abroad,” the minutes said.

The Fed, it may be recalled, has already slashed interest rates to zero and bought trillions of dollars of bonds ever since the outbreak of the deadly virus of an invisible kind. The virus has spread across geographical boundaries and caused havoc to the entire global economic order.

Participants generally agreed that prospects for further substantial improvement in the labor market would depend on a broad and sustained reopening of businesses. The pace of employment gains was quite strong in May and June, no doubt. “The increasing number of virus cases in many parts of the country has led to delays in some business re-openings and to some re-closures as well. The pace of declines in initial unemployment insurance claims had slowed in recent weeks, and claims remained at an elevated level,’’ the minutes said quoting the participants.

To put it mildly, the FED policy-makers have made a strong pitch for a highly accommodative monetary policy to counter the emerging virus-hit economy.

“The negative effect of the pandemic on aggregate demand was more than offsetting upward pressures on some prices stemming from supply constraints or from higher demand for certain products so that the overall effect of the pandemic on prices was seen as disinflationary,” the minutes said. Given this, it wasn’t surprising that a few participants at least felt that that the longer-term inflation expectations might move below levels consistent with the Committee’s symmetric two per cent objective. “Participants also noted that a highly accommodative stance of monetary policy would likely be needed for some time to support aggregate demand and achieve two per cent inflation over the longer run,” the minutes said.

It appears to be a long-haul game.