In case you aren’t already convinced that Janet Yellen is the most powerful woman in the world (or, I suppose, that financial markets are at least approximately informationally efficent), take a look at this:
Okay, so maybe that requires a bit of explanation…today, the Federal Reserve released the statement coming out of its March meeting, and Janet Yellen held a press conference to discuss the Fed’s course of action and answer some questions. Judging by the above picture, I’m going to go ahead and infer that the whole statement/press conference thing started at 2pm. So why was the market unhappy? Let’s go to the statement and see what we can find:
- The Fed still believes that bad weather was at least in part responsible for slow economic activity at the start of the year. (Not everyone agrees with this assessment.)
- Inflation is still below the Fed’s target, and future inflation expectations haven’t really changed.
- The Fed is cutting its asset purchases (read, quantitative easing, or, more generally, expansionary monetary policy) from $65 billion per month to $55 billion per month. (Yes, those still sound like big numbers, but consider that these numbers were consistently at $85 billion per month until recently.) The statement says that the Fed decided to “taper” further because the job market seemed to be in a place where it could recover on its own, and that it expects this amount to still be sufficient to keep interest rates low and inflation moving towards the 2% target.
- The Committee (i.e. the Federal Reserve Board of Governors) wants the world to know that they will keep tapering as the economy improves, but that it is not on a pre-set schedule and reserve the right to do what they want when they want. (Of course, it has this ability regardless of whether it actively asserts as such.)
- The Committee described its current approach as “highly accommodative” and reiterated its commitment to keeping interest rates low, even after the specific quantitative easing program ends.
For context, it’s helpful to know how this statement differs from the January statement and those from 2013 and such…luckily, the WSJ has been stealing my moves and developed a handy tool to track changes across FOMC meeting statements. (Spoiler alert: The Fed appears to be quite adept with cut and paste.) Upon reading the most recent statement, it’s mainly the change in asset purchases that really stood out, so the market’s reaction was likely due to the news of the further tapering. (Update: I had been told that the weak economic performance called the continued taper into question, but my banker friend assures me that the market still expected it, so the reaction was actually to the infamous interest rate “dot charts” that Yellen told everyone to not pay attention to. More on that in a second.) Why is this? Well, less expansionary policy generally means higher interest rates, which means it’s more expensive to invest, which makes businesses less profitable…yes, I know what you are thinking- but the Fed stressed its commitment to keeping interest rates low! Don’t worry, Twitter was a bit confused as well. For example:
Yellen says very clearly: The committee's views haven't changed. (The market hears it differently.)
— Justin Wolfers (@JustinWolfers) March 19, 2014
In other words, I’m guessing that the Federal Open Market Committee didn’t necessarily expect the world to interpret its statement as as “hawkish” (i.e. stingy with monetary expansion, in this context) as it did. This is probably because the world didn’t ignore the “dot chart” as instructed:
What the hell is that? (Yep, I can hear you asking that from here.) That, my friends, is a summary of where, under appropriate monetary policy, Federal Open Market Committee members and Federal Reserve branch presidents expect interest rates to be in the future. Okay, fine, that doesn’t mean a lot by itself, so let’s compare it to a similar chart from back in September:
Clear as mud, right? Apparently the takeaway is that interest rate expectations have moved up a bit, but why use a sentence when two incomprehensible pictures will do? =P I guess that’s why Yellen kept directing people to the statement rather than the dots, though one can’t help but notice that they contradict each other a bit. (Banker friend points out that the market did in fact notice and decided to believe the dots.)
But the real fun started during Yellen’s Q&A, which went from about 2:45 to 3:30pm. At around, oh, I dunno, 3:05 or so (mainly guessing from the graph above), a reporter asked Yellen to clarify the language in the statement that reads ” The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends…” Specifically, the reporter asked Yellen to define “considerable time,” since it would be nice to know for how much longer we can expect interest rates to stay near zero. Now, this is not the easiest thing, since it’s sort of like asking economists to put a time horizon on the short run versus the long run, but Yellen tried to be helpful and responded with 6 months as her time frame. Apparently the market had assumed that “considerable period” was something much longer than 6 months, since that is the point at which stock prices tanked.
Now, investors may be overreacting to this somewhat offhand comment of course, but at least we can tell from this that people are paying attention. Small victories, right?