Fed is weighing key issues but may reveal little

Chair Janet Yellen told Congress the Fed intends to end bond purchases by October. By then, its portfolio will be near $4.5 trillion, five times its size before the financial crisis.
Pablo Martinez Monsivais/Associated Press/File 2014
Chair Janet Yellen told Congress the Fed intends to end bond purchases by October. By then, its portfolio will be near $4.5 trillion, five times its size before the financial crisis.

WASHINGTON — This much is clear: The Federal Reserve will make another cut this week in its monthly bond purchases, which have been aimed at keeping long-term loan rates low.

This much is not: When will the Fed start tightening its interest-rate policy to thwart any inflation? How will it do so? And when will the Fed start paring its enormous $4 trillion-plus investment portfolio — a step that will put upward pressure on interest rates?

On those questions, expect no definitive signals Wednesday, when the Fed issues a statement after a two-day policy meeting. In many ways, the improving US economy no longer needs so much help from the central bank. Hiring is solid, and unemployment is on the cusp of a nearly normal 6 percent rate. Manufacturing is strengthening. Consumers are voicing renewed confidence.


Yet in other ways the economy the Fed will assess this week is less than fully healthy. The housing rebound appears to be faltering. Workers’ pay remains flat. Turmoil overseas poses a potential threat. And even the sinking unemployment rate isn’t as encouraging as it seems: It has dropped in part because many people have given up on job searches or retired early. The government doesn’t count people as unemployed unless they’re actively seeking work.

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Accordingly, the Fed is expected to reaffirm its plan to leave its key short-term rate at a record low near zero ‘‘for a considerable time’’ after it ends its bond purchases.

‘‘The economy is doing a little bit better, but there are still a lot of risks out there,’’ said David Wyss, an economics professor at Brown University.

The Fed will almost surely announce a sixth $10 billion cut in its monthly bond purchases, to $25 billion. Chair Janet Yellen told Congress this month that the Fed intends to end new purchases by October. By then, its investment portfolio will be nearing $4.5 trillion — five times its size before the financial crisis erupted in September 2008.

After that, the Fed embarked on bond purchases to try to drive down long-term rates and help the economy recover.


Even after its bond purchases end, the Fed will maintain its existing holdings, it has said, which means it will continue to put downward pressure on rates.

The Fed has kept its target for short-term rates near zero since December 2008. Most economists think it will start raising rates by mid-2015, though some caution the Fed could do so sooner if the economy keeps generating jobs at a robust pace.

Still, in testifying to Congress, Yellen stressed that at 6.1 percent, the unemployment rate exceeds the Fed’s target of 5.2 to 5.5 percent. She noted that high levels of long-term unemployment and weak wage growth are still a problem.

Mark Zandi, chief economist at Moody’s Analytics, said chronically lagging pay growth, in particular, will stop the Fed from raising rates before 2015. By then, he said, ‘‘the unemployment rate will be well below 6 percent, the amount of slack in the labor market will be winding down, and we should start to see better wage growth.’’

Besides discussing short-term rates, Fed officials this week will probably debate how to unwind their investment holdings.


They face a delicate task in shrinking the portfolio to more normal levels without destabilizing financial markets. The Federal Reserve’s bond purchases allowed it to inject money into the financial system, which wound up as reserves held by banks and helped keep loan rates low.

To reverse that process and raise borrowing rates, the Fed is considering a variety of tools. One would be to increase the interest it pays banks on excess reserves they keep at the Fed.