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| Jerome Powell Korea Times file |
'Quantitative easing (QE) tapering premature'
By Lee Kyung-min
The Bank of Korea will have room for monetary policy easing following the continued ultra-dovish stance expressed by the U.S. Federal Reserve (Fed), last week.
The Fed held its top policy-making committee meeting Jan. 26 and 27 (local time) to decide how best to navigate increasing challenges brought on by the COVID-19 pandemic amid a dimmer short-term economic outlook.
A notable factor in a possible policy stance shift was a change in the composition of the Federal Open Market Committee (FOMC), as four of the committee members are replaced each year. The four new voting members ― San Francisco's Mary Daly, Chicago's Charles Evans, Atlanta's Raphael Bostic and Richmond's Thomas Barkin ― are reportedly more dovish compared to the presidents of the Minneapolis, Philadelphia, Dallas and Cleveland Fed banks that they replace. Cleveland's Loretta Mester, Minneapolis' Neel Kashkari, Dallas' Robert Kaplan, and Philadelphia's Patrick T. Harker will not vote on policy this year, but will still attend FOMC meetings and participate in policy discussions.
The Fed reiterated that the policy rate will remain unchanged "until labor market conditions have reached levels consistent with the Committee's assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time," Fed Chairman Jerome Powell said during an online press conference.
The central bank is unlikely to make any changes in its current dovish stance for about a year, given possible financial market dislocations from all around the world ― meaning extreme volatility in bond, equity and foreign exchange prices, among other market indices.
Yet, excessive risk-taking in markets will encourage the Fed to take an earlier-than-expected tilt toward a gradual tapering of its ultra-loose monetary policy, with ample and predictable liquidity pumped in to fight against the pandemic increasingly cited as the culprit behind a disconnect between the real economy and financial markets. But the concern was briefly brushed aside as the Fed chairman said quantitative easing (QE) tapering, otherwise known as slowing the pace of the central bank's monthly buying of bonds, was premature. He said the current pace of purchases will be maintained until "substantial further progress has been made toward the committee's maximum employment and price stability goals."
The recent decision was largely in line with market expectations are that the Fed's FOMC is likely to follow in the footsteps of the European Central Bank (ECB), Bank of China (BoC) and Bank of Japan (BoJ) in staying the course with current monetary policies until economic conditions see a material improvement.
The Fed remained cautious with its economic outlook at the last FOMC meeting Dec.16, held two days after COVID-19 vaccinations started in the U.S. The committee members at the time stated that "the pandemic poses considerable risks to the economic outlook over the medium term." They suggested that interest rates wouldn't likely rise until 2024.
Inflation, QE (quantitative easing) tapering
Inflation was another major focus, an issue brought to the fore by the hopes of an earlier-than-expected economic recovery, sparked by the beginning of mass vaccinations against COVID-19 in some countries last December. This concern about inflation may seem like a dramatic turnaround from worries over deflation raised amid the economic meltdown brought on by the coronavirus pandemic.
The case for inflation is weakened by business activities still sagging with low consumer price levels. Yet fiscal and monetary authorities should be prepared for a highly probable scenario, given the astronomical amount of liquidity in the market and the potential for a worldwide economic recovery.
Inflation is an economic condition opposite to deflation, and the two are considered opposite sides of the same coin ― an indication of how quickly an economy can swing from one to the other.
At issue was whether the bullish run in the equity and property markets will see a drastic downtrend if pandemic-created liquidity overflow in the market tapers off rapidly. Excess liquidity drying up could eventually create a highly troubling scenario that combines explosive consumption demand and an overwhelmingly slowed supply capability, which needs time to recover to a pre-pandemic strength.
The key determinant in what some consider a premature debate will be the speed of the job market recovery, since the revitalization of much-tightened consumption will not be able to materialize unless workers ― mostly those in advanced economies with high labor market flexibility ― regain a stable source of income.
The increase in overall price levels could well exceed the Fed's 2-percent target inflation rate, once pent-up household demand gets released after vaccinations become broadly effective, backed further by the passage of fiscal plans.
This situation is highly probable since supply will not be able to match explosive demand long stifled due to the pandemic.
The problem is beyond a mismatch between supply and demand and the resulting inflation, because it involves fluctuation in the interest rate yield on government bonds.
The Fed in principle can adjust the average target inflation rate, while allowing for a slight jump above 2 percent for some period.
But the market could react in ways that veer off the course set by the Fed, in which case yields on longer-term government bonds will face upward pressure.
The continued decline in the U.S. dollar has led to a rise in yields on long-term U.S. government bonds. This rise in interest rates happened because bond dealers have quickly priced risks and the expected inflation into the market.
A further rise in overall price levels will accompany elevated risks in the stock market, forcing the central bank to implement measures for effective yield control.
Benchmark 10-year Treasury note yields traded at 1.177 percent, Jan. 12 (local time), the highest since March.
Bond yields have trended upwards since the U.S. presidential elections last November, reflecting greater emergency stimulus amid a prolonged slowdown in the job market and retail sales.
Extending the rise of yields further were Senate elections in Georgia the week before, solidifying Democratic control in paving a way for the early fiscal policy implementation.
"Raising the policy rate will not be an immediate concern for the Fed until after the pandemic becomes under control. The Bank of Korea therefore will have room to maneuver for the time being," Seoul National University economist Kim So-young said.
