May 21, 2013 7:14 pm

Bernanke to address QE timeline

Ben Bernanke goes to Capitol Hill on Wednesday for a big day of Fed communication that will clarify how long the central bank expects to keep buying assets at a pace of $85bn a month.

The freshest information will arrive first, when the Fed chair testifies at 10am in Washington, then the minutes of April’s rate-setting Federal Open Market Committee – now three weeks old – will come out in the afternoon.

For markets, the crucial question is when the Fed will start the tapering down of QE3 – its third round of quantitative easing – that it warned of in March. The best place to look for an answer will be in the differences between the minutes and Mr Bernanke’s testimony.

The minutes are likely to show that April’s big change, when the FOMC said that it was willing to increase as well as decrease the pace of QE3, was more a statement of what is logically possible than what it actually expects to happen.

“Because the outlook is uncertain, I cannot be sure which way – up or down – the next change will be,” said William Dudley, president of the New York Fed, in a speech on Tuesday. “But at some point, I expect to see sufficient evidence to make me more confident about the prospect for substantial improvement in the labour market outlook.”

The overall message from Mr Bernanke is likely to mirror that of March: the Fed is looking to start a slow winding down of QE3, but when it does so depends on the data from the labour market and the broader economy.

If Mr Bernanke is much more upbeat than the April minutes – especially in response to questions – it will be a signal that a taper is drawing near.

Broadly speaking, Fed officials think the economy has improved quite a lot. When they began QE3 last September, the FOMC forecast an unemployment rate of 7.75 per cent at the end of 2013. As of April, the actual rate was already down to 7.5 per cent.

Mr Bernanke is unlikely to give a specific trigger for the end of QE3 as the FOMC has struggled to agree on one. Some simulations done when QE3 began suggest it should stop when the unemployment rate gets to about 7.2 or 7.3 per cent.

But other labour market indicators cited by Mr Bernanke in the past – such as the rate at which people are hired or quit jobs – have barely improved at all in the last nine months. The Fed has been clear that it is targeting the future outlook for the labour market, not today’s data, so Mr Bernanke’s economic forecast is crucial.

Congress is likely to press him on how much tighter fiscal policy will slow the economy down. “Over the coming months, how well the economy fights its way through the significant fiscal drag currently in force will be an important aspect of this judgment,” said Mr Dudley about tapering.

Another consideration is that a slow taper of QE3, which adjusts the pace of purchases in response to the economic news, will take time. Mr Bernanke has said the Fed will not change the pace of purchases at every meeting. Mr Dudley has talked about “gradually dialling back the pace”.

A fast taper, cutting the purchase rate to zero in two stages with one meeting on pause in between, would take three months. A more gentle taper would take even longer. If the Fed wants to taper slowly, then it has to start the process earlier, perhaps at its September meeting.

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