I watched the video of the press conference yesterday evening and I really couldn’t figure out why the markets took a dive. But after reviewing the transcript, I think I found the problem, at least in a simplistic form:

The purpose of this forward guidance about policy is to assure households and businesses that monetary policy will continue to support the recovery even as the pace of economic growth and job creation picks up. Importantly, as our statement notes, the Committee expects a considerable interval of time to pass between when the Committee will cease adding accommodation through asset purchases and the time when the Committee will begin to reduce accommodation by moving the federal funds rate target toward more normal levels. The second policy tool being employed by the Committee is asset purchases. Specifically, the Committee has been purchasing 40 billion dollars per month in agency mortgage-backed securities and 45 billion dollars per month in Treasury securities. When our program of asset purchases was initiated last September, the Committee stated the goal of promoting a substantial improvement in the outlook for the labor market in a context of price stability, and noted it would also be taking appropriate account of the efficacy and costs of the program. Today the Committee made no changes to the purchase program.

Although the Committee left the pace of purchases unchanged at today’s meeting, it has stated that it may vary the pace of purchases as economic conditions evolve. Any such change will reflect the incoming data and the implications for the outlook, as well as the cumulative progress made toward the Committee’s objectives since the program began in September. Going forward, the economic outcomes that the Committee sees as most likely involve continuing gains.

Guys, we’re still doing inflation targeting. But since all of our regular tools are nonfunctional in an ultra-low inflation environment and at the ZLB, we’re doing this QE thing. Forget inflation. Forget interest rates, for now anyway; and the better we think the economy is going to get, the tighter policy will become. We really don’t care about employment, because if prices start rising for any reason at all, there will be hell to pay.

That sounds like a reasonable translation, dajeeps style, to me.

Basically, with ultra-low inflation the inflation targeting Fed is going to tighten policy. Bernanke can try to dress it up by saying that it’s like letting off the gas pedal instead of hitting the brake all he wants. But really it is only putting lipstick on a pig – we’re tightening policy; but only a little here, and a little there – as if we need tighter policy. There is no rhyme or reason for it; and the markets are rightly reflecting it.

The FOMC just put attaining its goal out of reach; and in so doing made any non-adjustment of asset purchases moot.

Nice going Ace.

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