The Federal Open Market Committee Meeting -- July 30th and 31st

The Federal Reserve is responsible for using the three tools of monetary policy, open market operations, the discount rate, and the reserve requirements, in order to influence the amount of money available in the economy to reach national economic goals. The Federal Open Market Committee (FOMC) is directly responsible for open market operations. The committee consists of twelve members who serve one-year terms on a rotating basis from banks in four different regions of the United States. Every year, the committee holds 8 scheduled meetings and will meet if economic conditions dictate the need. At each of the meetings, the committee reviews the overall economic and financial conditions and then determines the appropriate amount of monetary action. Long-term goals are then reassessed as well as the means to reach them.

The scheduled two-day July meeting was held Tuesday and Wednesday, the 30^th and 31^st. Although the Federal Open Market Committee statement remains unchanged since its statement after the meeting on June 19th, there were two major developments that warrant discussion. The Fed stated that "mortgage prices have risen somewhat" (Figure 1) and description of the housing market changed from "strengthened further" to "been strengthening." The slight change in words indicates that the market will be watched more closely than usual.

Figure 1 - U.S. Mortgage Rate October 2010 to July 2013

The second is that: "The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, but it anticipates that inflation will move back toward its objective over the medium term.” (Figure 2) The second statement, the outlook for the future, says that the tapering planned for September is still a good bet and that markets should in fact anticipate that the Fed will cut down on its asset purchases by later this year.

Figure 2 - Core PCE Inflation Early 2009 to 2013

One notable small change in the language of the statement is that the Fed changed its description of economic expansion from “moderate” to modest. The word “modest” describes economic growth that is slightly weaker than the word “moderate” would describe. Throughout the numerous past few years, since January 2012, the word used to describe economic expansion has always been moderate. Although the change itself is very slight, it is important to note that it does signify a change in economic activity.

The Committee also said that the labor market has shown improvements in its conditions (Figure 3) over the past few months, but that the unemployment rate remains high (Figure 4). However, the committee expects that with the appropriate monetary actions, the unemployment rate will decline to levels the Committee hopes for with economic growth. The statement, in congruence with Bernanke's semi-annual testimony from earlier in the month, says that the Fed is remaining on track with its $85 billion quantitative easing program. The Fed will continue to buy $40 billion mortgage-backed securities and $40 billion longer-termed Treasures per month while keeping interest rates at record lows.

Figure 3 - Job Growth in the United States, July 2010 to July 2013

Figure 4 - Unemployment Rate in the U.S. from 2004 to 2013

“Taken together, these actions should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative.” - Statement from the FOMC, July 31st

All in all, the Fed plans to cut back on its quantitative easing by the end of the year as long as the outlook on economic activity remains on track as it has been and that it intends on keeping Federal Funds rate at its record lows for the next few years to come. By mid-2014, the quantitative easing should have been wrapped up. After the statement on Wednesday, the market remained relatively calm as opposed to the volatility shown after any word from Bernanke previously (Figure 5). The figure below shows the dip in the DJIA in June after the FOCM meeting and the growth after the July meeting yesterday. Forbes magazine said that "Stocks moved up and then down, but remained in a relatively tight range on Wednesday after the FOMC statement was released, while the yield on 10-year Treasuries trended lower to 2.648%.  Gold took a minor tumble, while major banks like JPMorgan Chase JPM +1.45%, Citigroup C +1.52%, and Bank of America made their way higher."

Figure 5 - DJIA May to July 2013

http://www.federalreserve.gov/monetarypolicy/fomc.htm

http://blogs.wsj.com/economics/2013/08/01/fedspeak-whats-the-difference-between-modest-and-moderate/

http://blogs.wsj.com/economics/2013/07/31/economists-react-september-tapering-still-a-good-bet/

http://www.forbes.com/sites/afontevecchia/2013/07/31/fomc-reveals-bernanke-keeps-qe-juice-flowing-taper-should-come-later-this-year/

http://www.businessinsider.com/july-30-31-fomc-meeting-statement-2013-7

http://qz.com/110502/the-fomc-statements-first-paragraph-illustrated/

http://www.marketwatch.com/investing/index/djia

http://www.nasdaq.com/article/stocks-move-mostly-higher-in-reaction-to-fed-statement---us-commentary-20130731-01171