Powell offers thoughts on balance sheet expansion, level

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The Federal Open Market Committee post-meeting statement was much like the previous one, with just a minor tweak, as the panel decided to keep the fed funds target at a range of 1.50% to 1.75%, and called policy “appropriate” for now, offering little guidance about its next move.

The tweak involved changing the word “near” to “returning to” regarding the Fed’s 2% symmetric inflation target. In his press conference, Fed Chair Jerome Powell explained this was to signal that the panel would not be “comfortable” with inflation remaining under the 2% target. He estimated a $1.5 trillion floor for reserves is needed, noting that at times reserves will have to be higher.

He told reporters the Fed will “gradually” slow the pace of its Treasury bill purchases and overnight repo actions some time in the second quarter.

“The challenge for the Fed is to begin preparing financial markets for ending its repo market liquidity program after tax season in April,” said Steve Skancke, chief economic advisor at Keel Point and former Treasury staffer. “The Fed doesn’t see the $60 billion a month increase in its balance sheet as quantitative easing, in contrast to the markets seeing it as just that. The liquidity reduction issue was a key part of the communication misunderstanding the Fed chair had in December 2018.”

In the press conference, Powell noted the coronavirus adds “uncertainty” to the outlook, but it’s too early to tell how it will impact the markets, bus said it will "likely" cause some "disruption." He also said he sees improvement in the global economy, but he doesn't yet see a "decisive" manufacturing recovery.

“The market anticipates that the Fed is unlikely to move rates this year, and today’s communication is consistent with this expectation,” said Mike Fratantoni, Mortgage Bankers Association SVP and chief economist. “We continue to expect that the Fed’s next move will be a rate increase at some point in 2021.”

The Fed has said it will be data-dependent, noted Tony Bedikian, head of global markets at Citizens Bank. “Despite global headwinds, U.S. policymakers continue to strike a balance between low unemployment and moderate inflation in a slow, steady growth environment.”

“The Fed did, however, raise the [interest rate on excess reserves] rate by 5bp reflecting the decline in the effective rate in recent weeks,” said Lee Ferridge, head of macro strategy for North America at State Street. “This, however, should be seen as a technical move and should not be interpreted as a tightening in policy, merely ‘fine-tuning.’ ”

The bar is “seemingly quite high” for a move in either direction, he said. “The most interest surrounded the Fed’s liquidity program although here again the Fed deferred any major decision until later meetings. All of this is likely to have little market impact, with the progression of the coronavirus and its impact on growth and asset prices a much bigger focus for markets at the current time. Expect yields to remain under pressure if the virus continues to spread, while the USD is likely to benefit once again through its safe haven status.”

Pending home sales
Pending home sales dropped 4.9% in December, after a 1.2% gain a month earlier, the National Association of Realtors said Wednesday. Pending sales grew 4.6% on a year-over-year basis.

Economists polled by IFR Markets had expected a 0.5% increase in the month.

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