Fed will start modestly reducing its bond holdings

Fed will start modestly reducing its bond holdings

Fed will start modestly reducing its bond holdings

After its first rate increase in 2015, however, the central bank didn't again hike its short term rate for a year, thanks to economic weakness in the USA and unstable global markets.

Janet Yellen herself does not know whether the slowdown in inflation is transitory or persistent, she simply described the slowdown as a "mystery" and said if the fed view changes on inflation, it would require an adjustment in monetary policy.

The other policy decision on Yellen's agenda involves the Fed's so-called balance sheet.

We think the pace of the reduction will be key to watch. That cap will start off at $10 billion a month and increase quarterly until it reaches $50 billion.

Added Matthew Jozoff, J.P. Morgan's mortgage-debt strategist: "We have never seen a central bank exit out of $1 trillion of mortgage-backed securities, so we are concerned about how this is going to go".

Still, the Fed hasn't explained well the distributional consequences, or economic drags, of new financial regulations that it and other regulators have put in place.

Fundamentally, the economic backdrop for the United States and globally remains positive, and this type of backdrop generally leads toward a constructive view on risk assets.

Futures markets are now pointing to a 60.5% chance of a December rate increase, according to Bloomberg's World Interest Rate Probability data. [.] Today's chart continues to suggest that the Fed will press ahead with one more quarter-point interest rate hike by the end of the year and three further quarter point hikes in 2018. So the market is now focused on the December policy meeting.

Over a series of three quantitative easing programs, the Fed also bought close to $2 trillion in Treasury bonds. The balance sheet size could settle out at between $2.4 trillion and $3.5 trillion sometime early next decade, New York Fed President William Dudley said in a speech earlier this month.

The Fed had reduced its benchmark interest rate to near zero, Blinder says.

In addition to forecasting future rate hikes, analysts are trying to divine whether President Donald Trump will re-nominate Yellen to a second four-year term. Of course, it's worth noting that the Fed has telegraphed its plans before and deviated from the projected path. Kevin Warsh, a former Fed governor and financier, has publicly criticized the Fed's "make-it-up-as-you-go-along approach" (paywall). So, the main reason the Fed has been reluctant to raise rates much is because inflation has been lower than the Fed anticipated it would be.

President Donald Trump said in July that Yellen is "absolutely" in the running to remain at the helm of the US central bank when her term expires in February.

"What we need to do is figure out whether or not the factors that have lowered inflation are likely to prove persistent or they're likely to prove transitory", she said. "The American people should feel the steps we have taken to normalize monetary policy...are well justified given the very substantial progress we've seen in the economy". And she said that, with the mystery of low inflation still unresolved central bankers are prepared to move in any direction depending on how the economy evolves.

Still, officials seem to be prepping markets for the possibility of a rate increase.

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