After several months of teasing the market, the Fed finally delivered its taper. A week before Christmas, this was a punchy move. The message was clear too. In his response to the first question, Bernanke reiterated this key line from the statement: [If the data turns out as well as expected], ‘the Committee will likely reduce the pace of asset purchases in further measured steps at future meetings’. Every time he was asked whether they might take the tapering back, Bernanke didn’t take the bait. Of course they will be flexible, he said, but let’s see how this goes first.
Equity markets seem happy to hear the economy is recovering; that the event risk over a taper has been removed without (yet) causing yields to spike. But make no mistake, this was a hawkish meeting:
– They didn’t change the 6.5% unemployment threshold. Sure, they added they’d wait until they were “well past” that level before hiking, but Fed speakers have been emphasising “threshold not trigger” since September anyway
– They didn’t add an inflation floor
– They didn’t cut the IOER
– They didn’t slash their inflation forecasts
– They did cut their unemployment forecasts – the biggest change being 2014 at 6.3%-6.6% from 6.4-6.8
– Although the median Fed voter sees 2016 rates at 1.75% from 2%, the dispersion saw some voters go for higher rates
– Although one more voter sees rates rising first not until 2016, there are still 2 who see rates rising in 2014
So two members of the board can see, now, that rates could go up within 12 months. With interest rates having been zero for 5 years, and “lower for longer” the central bank mantra for the whole of that period, it’s easy to be lulled into thinking cheap money will be around forever. Central banks don’t want you to panic as they try to normalise. The question is, do we think the taper tantrum of June this year was just a bad dream? Or was that the moment when we started to wake up?
The rally in the dollar, and rise in US rates, suggests those markets are indeed waking up. Equities have form in lagging – after money markets froze in the summer of 2007 they rallied for another 3 months before noticing. Data will be key – not just employment now but inflation, which has hit a softer patch of late. Get ready for 2014: the year when the global economy walks out the hospital unaided and stumbles to the sunlit uplands.