'Tapering' remains at least months away
The market was watching most closely for any ‘taper talk’, as the focus shifts to the point at which the Fed may start scaling back the extraordinary levels of monetary accommodation, particularly given an improving growth outlook and potentially further fiscal stimulus to come.
Chairman Jay Powell reiterated that any such tapering is "some time” away. In our view, tapering before the end 0f 2021 appears unlikely. Although the economy is on a road to recovery, the Fed’s dual mandates are not being met. Firstly, the labor market is significantly short of full employment and secondly, inflation is below the 2% inflation target.
The Fed also specifically noted that growth has moderated and that pandemic-exposed sectors still face challenges. The Fed is perhaps less willing than markets to look through these factors.
As such, we expect the Fed will consistently commit to its programs until the economy switches gears to the upside. If anything, they may intervene more to keep long-term rates subdued at the first sign of tightening financial conditions.
Other central banks may move before the Fed
Over the past two weeks, the Bank of Canada hinted at tapering and the European Central Bank suggested it may not purchase as many bonds as it has authorized. The Fed has, by contrast, committed to not only meet but allow inflation to modestly exceed its target, which may explain this divergence in communications.
The Fed will take a backseat to fiscal authorities for now
In our view, the Fed’s actions are likely to take a backseat to fiscal support and the pandemic response in the coming months. This is not a trend unique to the US, and is in fact part of a new economic consensus that we are calling neofiscalism.
As this era of fiscal dominance continues to gather steam, the fiscal policy outlook will potentially become more important than monetary policy for markets. It may mean that Fed meetings gather less attention than Congressional hearings and votes.
Ironically, it may mean fewer eyeballs on the current Fed Chair Jerome Powell and more eyeballs on his predecessor (and now) Treasury Secretary Janet Yellen.
On that front, we currently expect Congress to agree to a fiscal package of about $1trn by March; the timing and size of this bill may hold more sway over the direction of markets than the Fed.