For some time the Fed has made it clear that its number one priority has been the economic well-being of the millions of workers laid off during the Great Recession who have yet to find work again. The Fed’s worry is that the longer this group stays unemployed the greater the chances it will morph into a permanent underclass of the type Europe has long had.
Recently, the Fed has been increasingly vocal about the fact that monetary policy can do little for these incipient lost economic souls. Their rescue is really a job for fiscal policy that promotes job creation–say, reform of the tax code or infrastructure spending–sound advice that is falling on deaf Congressional and White House ears.
The Fed’s priorities appear to be changing, however. It’s primary focus is shifting to preparing financial markets for a long journey away from today’s emergency-low interest rates to more normal (that is, higher) ones. The agency is doing this in its usual indirect way. It has been so long since investors have had to contemplate a higher cost of money, however, that many may not understand the ritual dance that is now beginning.
So far, the signaling has included:
–remarks by outgoing Fed Chairman, Ben Bernanke,
–discussion by other ranking Fed officials,
–mention in Fed meeting notes,
–hints dropped to favored reporters and columnists. Their identities as conduits for Fed information are well-known to Fed watchers, who immediately understand the true source of the reporters’ statements.
The idea is to get the markets to start to move by themselves in the direction the Fed wants. That way Fed interest rate hikes seem to be only validating positions the markets are already taking, something the Fed prefers.
Two factors make this process more daunting than usual:
–bond investors have been conditioned for over three decades to think that interest rates only go down,
–in the Fed’s view, overnight money has to rise by more that 400 basis points to get back to “normal,” a huge move that will likely take place over several years.
The real trick will be to prevent bond market from rushing ahead and making the entire move in one leap once investors figure out what’s going on. It seems to me that this is the purpose of the apparent Fed “confusion.” It’s deliberate–and it’s intention is to get the interest rate train rolling without gathering too much of a head of steam.