Fed meeting holds few surprises

The Federal Reserve met to day and decided to keep policy unchanged, but warned that it could taken action down the road if conditions deteriorate. More details on the statement at Examiner.

What I want to do in this space is look at some of the subtle shifts in the language of today’s statement versus the one released August 10 and provide an interpretation.

Starting at the top, the Fed maintained that spending on business equipment and software is still rising but added that increases are coming “less rapidly than earlier in the year." However, though it noted that bank lending continues to contract, the decline has been “at a reduced rate in recent months.”  Not much in the way of good news, but a turnaround in lending is a prerequisite for a more robust recovery.

The second paragraph gets to the crux of the statement and reveals that the FOMC is growing more concerned about prices.

In the prior statement, the Committee said:

“Measures of underlying inflation have trended lower in recent quarters and, with substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.”

The latest version details growing worries:

“Measures of underlying inflation are currently at levels somewhat below those the Committee judges most consistent, over the longer run, with its mandate to promote maximum employment and price stability. With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to remain subdued for some time before rising to levels the Committee considers consistent with its mandate.”

The extensive language almost seems contradictory. On the one hand, the Fed clearly states for the first time what we all know – inflation is too low, and Fed officials are growing increasingly concerned.  On the other hand, that last clause suggests that everything will work itself out, and the economy will not experience deflation.

At a minimum, the Fed seems to be saying that falling prices are still just a remote possibility.

Moving on the FOMC did seem to inch closer to new measures, making just subtle changes in its verbiage.

“The Committee will continue to monitor the economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and price stability.”

versus:

“The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if need to support the economic recovery and to return inflation, over time, to levels consistent with its mandate.”

Note the more overt "return inflation, over time, to levels consistent with its mandate" compared with the more generic "promote...price stability."  

Final thoughts

The Fed still believes deflation is a remote possibility, but direct references about falling inflation indicate that monetary officials also believe the odds have risen, and policymakers aren’t taking any chances.

Hence, they remain ready and willing to employ all necessary tools at their disposal to prevent what happened in Japan from washing up on the shores of the U.S. economy.