Fed signals stronger economy, stays course on reducing bond purchases

The Federal Reserve scaled back its bond-buying stimulus program by another $10 billion as it saw signs the economy has thawed after this year’s severe winter weather.

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In a statement following its two-day meeting, the Federal Open Market Committee announced it would cut its bond stimulus to $45 billion each month, marking the fourth such consecutive reduction since October.

“Growth in economic activity has picked up recently, after having slowed sharply during the winter in part because of adverse weather conditions,” the FOMC said in its statement, while household spending “appears to be rising more quickly.” The committee also mentioned a slowdown in business investment and the continued slow recovery in the housing sector.

The statement came just hours after the Commerce Department posted an advance estimate of first-quarter GDP that showed growth of just 0.1 percent, compared with 2.6 percent for the fourth quarter of last year.

“Essentially, they are confirming their prior view that the economy is recovering but it’s not sufficiently robust to change the stance of the monetary policy,” said Luigi Guiso, visiting professor of finance at Kellogg School of Management of Northwestern University.

U.S. stocks gained following the Fed’s announcement, with the Dow Jones Industrial Average rising 45.47 points to close at a record high of 16580.84, even though the bond tapering announcement was widely anticipated.

“I honestly think it takes a large amount of bad data, all in the same direction, to change the Fed off the tapering course,” said David Nice, associate economist at Mesirow Financial Holdings. “We are expecting $10 billion each meeting until that ceases to exist.”

The Fed’s key short-term interest rate, the federal funds rate, has remained near zero since late 2008 when it was brought down to the historic low to stimulate the economy. The Fed is still far from raising the rate as it tries to assure the markets that the central bank remains committed to boosting the economy, and has said the timing of the first rate hike will be dependent on economic data. 

In a late March speech, Federal Reserve Chairwoman Janet Yellen said she still saw a slack in the economy and the labor market and added the Fed intends to keep the fed funds rate low to support the weak job market. 

In the speech, Yellen indicated she was concerned about long-term unemployment, even though the current unemployment rate, at 6.7 percent, is down significantly from the recession peak of 10 percent.

Some Fed officials expect the fed funds rate to rise slowly. San Francisco Federal Reserve Bank President John Williams said in early April that the short-term interest rate should start rising in the second half of 2015.

“If the recovery is at a faster pace, they may consider lifting the interest rate” by a tiny amount, Guiso said. “But it will be conditional.” Pointing to the disappointing first-quarter GDP number, he said there are still a lot of uncertainties about the pattern of the recovery and growth.

The FOMC will meet again June 17-18 and will be followed by a press conference with Fed Chair Yellen.

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