The Federal Reserve made investors a touch jumpy on Wednesday, as bond and stock markets jolted following the central bank's policy statement and Janet Yellen's first press conference as Fed chair.
First, the Fed stated in its economic assumptions that most Fed participants see the key interest rate rising to 1 per cent by the end of 2015, up from an earlier assumption of 0.75 per cent.
Then came surprise No. 2, by far the bigger one: In response to a question at the press conference about what the Fed means by keeping its key rate low for a "considerable time" after its bond-buying program ends, Ms. Yellen mused aloud that it's tough to pin down what that term means, precisely – but six months sounded about right to her.
That hit markets hard, because it implies the first interest rate hike could begin in early 2015, or considerably earlier than the end-of-year forecast that many observers had been expecting. The S&P 500 fell as much as 20 points, the Canadian dollar slumped below 89 cents (U.S.), gold continued to drift lower and the yield on the 10-year U.S. Treasury bond rose above 2.78 per cent.
Stocks subsequently clawed back some lost ground but nonetheless revealed how twitchy investors can be at the prospect of rate hikes. Certainly, Ms. Yellen's first statement and press conference as Fed chair has given investors and economists plenty to think about. Here are some early thoughts:
Ian Shepherdson, Pantheon Macroeconomics: "Nervousness over the tightening of the labor market is now creeping in. If wage gains begin to pick up and unemployment continues to decline over the next few months, this nervousness will only intensify, and rate expectations will rise further."
Stéfane Marion/Paul-André Pinsonnault, National Bank Financial: "The decision to taper QE further shouldn't be surprising because of the improving economic conditions: commercial & industrial loans (all-time high), stock market at a near record high, corporate bond spreads near historical lows. That perhaps explains why more FOMC participants are not only open to continued tapering but also to a higher fed funds rate next year. Today's Fed announcement supports our view that the US economy will continue to strengthen through the balance of the year and that the 10-year US Treasury yields will move back above 3 per cent. "
Michael Gregory, BMO Nesbitt Burns: "From a forward guidance perspective, the Fed has given itself more policy flexibility… flexibility not to tighten if the jobless rate continues falling but also flexibility to tighten even if inflation remains low. FOMC participants are expecting policy rate liftoff a bit earlier than before with a slightly steeper trajectory than before (and perhaps starting as early as 2015 Q2), but the Fed is also telling us that the ultimate rise in rates will be shallower than any historic norm."
David Berman