Monday Morning Cup of Coffee: Bubble, bubble, toil and trouble

Monday Morning Cup of Coffee: Bubble, bubble, toil and trouble

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Fed Bank presidents see early taper as more feasible after jobs data

Carve back likely to be gradual

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Three Federal Reserve Bank leaders suggested the nation's improved employment outlook could give the Federal Open Market Committee the push needed to curtail the tapering of mortgage-backed securities and Treasurys a bit sooner.

Yet at least one of the speeches conveyed a sense of cautious optimism, citing how quickly the markets turned in the summer — with interest rates edging higher — as soon as MBS investors got wind of a possible MBS tapering in September. Of course that taper never occurred, but Federal Reserve chiefs are now well aware of how the mortgage-bond market reacts to this type of news.

As James Bullard noted in a presentation Monday, the perceived tapering led to swift market movements. In turn, “the perception of the expected path of the policy rate also changed sharply in response to these events — that is, tapering as clearly linked to forward guidance.” Going forward, he sees a need for the market to view two things separately: the pace of the taper and future policy rates.

Richard Fisher, president and CEO of the Federal Reserve Bank of Dallas, sits squarely in the let’s taper sooner rather than later camp.

Fisher, who has been a consistent critic of quantitative easing, notes that banks and markets are flush with liquidity and should be ready to step into the economy.

What’s holding them back is the nation's fiscal policies and regulatory uncertainty — two things the Fed cannot control, he pointed out.

In other words, Fisher thinks the Fed has done enough, and it’s time to reverse course.

This view gained traction on Friday when the nation’s unemployment rate fell to 7% from 7.3%. An unemployment rate of 6.5% is the Fed’s benchmark for cutting back on aggressive economic stimulus.

"Against that background, I believe that the current program of purchasing $85 billion per month in U.S. Treasurys and mortgage-backed securities comes at a cost that far exceeds its purported benefits," Fisher said Monday while speaking in Chicago at the DTN/The Progressive Farmer Ag Summit 2013.

Even Bullard expects tapering in the near future, but he stopped short of giving direct guidance. Instead, he acknowledged that while improving labor conditions make tapering more likely, it’s still possible labor market conditions could worsen in the coming months.

Jeffrey Lacker, president of the Federal Reserve Bank of Richmond, expects Fed officials to discuss tapering at next week’s meeting of the FOMC members.

"I expect discussion about the possibility of reducing the pace of asset purchases," he noted in a speech Monday. "The key issue, in my view, is the extent to which the benefits of further monetary stimulus are likely to outweigh the costs. Economic growth trends currently appear to be driven mainly by population growth and productivity growth, in which case monetary stimulus will only have limited and transitory effects."

While Lacker believes further accommodative policies could prove beneficial, he also admits the longer this goes on, the more difficult it is to enact a solid “exit policy".

Fisher with the Dallas Fed took note of substantial improvements in housing, but pointed to a definite downside.

"[P]rices are now appreciating to levels that may be hampering affordability in many markets," he said when discussing housing.

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