Fed Tries to Prepare Markets for End of Securities Purchases

By Craig Torres and Vivien Lou Chen
Sept. 3 (Bloomberg) -- The Federal Reserve is trying to prepare investors for an end to its housing-debt purchases, while keeping interest rates near zero, reflecting an economy pulling out of a recession with little momentum.
Federal Open Market Committee members discussed extending the end date of the agency and mortgage-backed bond programs, minutes of the group’s Aug. 11-12 meeting showed yesterday. The move would be aimed at avoiding disruptions in housing credit at a time when recovery prospects are clouded by rising unemployment and slowing wage gains, analysts said.
While the economy is projected to expand this quarter, central bankers had "particular" concern about the job market, signaling that the FOMC may need to see a peak in the unemployment rate before it begins withdrawing monetary stimulus. Some policy makers saw dangers of "substantial" declines in the inflation rate, yesterday’s report showed.
"They need to see labor markets improve and inflation stabilize, and not fall, before they even have a serious discussion about increasing interest rates," said Michael Feroli, an economist at JPMorgan Chase & Co. in New York and former member of the Fed’s research staff.
A government report tomorrow is projected to show the unemployment rate rose to 9.5 percent in August from 9.4 percent in July, threatening to curtail consumer spending. Other areas of the economy have indicated the deepest recession since the 1930s has ended: manufacturing grew for the first time in 19 months in August, and home sales and prices have risen.

Next Meeting

Chairman Ben S. Bernanke and his fellow FOMC members next meet Sept. 22-23 in Washington.
"They see positive economic growth, no job growth, a very slow decline in unemployment, and a huge vulnerability to anything that could shock confidence," said Christopher Low, chief economist at FTN Financial in New York. "I would be really surprised if they tightened at all next year."
Treasury securities rose yesterday as the minutes said Fed officials expressed "considerable uncertainty" about the strength of recovery. Yields on benchmark 10-year notes declined to the lowest level in more than seven weeks, before closing at 3.31 percent in New York. Stocks dipped, with the Standard and Poor’s 500 Index closing down 0.3 percent to 994.75.
Bernanke, 55, was nominated to a second term as chairman by President Barack Obama last month after overseeing a record expansion of the central bank’s balance sheet in a campaign to prevent a depression. Seeking to unfreeze credit and revive growth, the Fed has loaned to banks, provided backstop financing for the commercial paper and asset-backed securities markets and injected liquidity through direct purchases of securities.

Treasuries Program

Central bankers extended their $300 billion U.S. Treasury securities purchase program by a month in August and continue buying up to $1.25 trillion in agency mortgage-backed securities and $200 billion in the debt of agencies including Fannie Mae and Freddie Mac.
A number of policy makers judged that a "tapering of agency debt and MBS purchases could be helpful," the Fed minutes said. Officials postponed a decision on extending the initiative, which is scheduled to end in December.
An extension would be "an attempt to make quantitative easing potentially less disruptive when it ends," Feroli said.
Central bank officials have indicated differences on when to begin withdrawing the monetary stimulus.

Plosser’s Take

"We have to begin to pull back from our extraordinary programs," Philadelphia Fed President Charles Plosser said yesterday while noting a risk of faster inflation in the future.
Speaking in an interview with CNBC, he declined to say whether the Fed should begin raising the main interest rate next year.
Fed district bank presidents Jeffrey Lacker of Richmond and James Bullard of St. Louis last week said the central bank may not need to complete its purchases of mortgage securities. New York Fed President William Dudley by contrast stressed an exit is "premature," citing "high unemployment" and weak growth.
Policy makers saw the economy recovering "slowly" in the second half of this year, and still "vulnerable to adverse shocks," the Fed minutes said.
U.S. Treasury Secretary Timothy Geithner cautioned yesterday that it’s too early to remove policies aimed at reviving the economy.
"We’ve come a very long way but I think we have to be realistic, we’ve got a long way to go still," Geithner told reporters in Washington as he prepared to leave for a meeting of Group of 20 finance ministers and central bankers on Sept. 4-5 in London.

Inflation Outlook

Most Fed officials expected "subdued and potentially declining wage and price inflation over the next few years," the minutes said. "A few saw a risk of substantial disinflation."
The Fed’s preferred measure of inflation, the personal consumption expenditures price index minus food and energy, rose
1.4 percent for the 12 months ending July.
"They are not tightening anytime soon," said Mark Spindel, chief investment officer at Potomac River Capital LLC in Washington, which manages about $100 million. "They are going to be sitting there with unemployment approaching 10 percent and inflation falling."

i figured this news was already priced in