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WHAT’S NEXT FOR THE FED?

Today’s Fed decision is largely a non-event.  The consensus believes the Fed will leave rates unchanged and is unlikely to alter their language too much as global double dip concerns have increased in recent months:

“The FOMC announcement for the June 22-23 FOMC policy meeting is expected to leave the fed funds target rate unchanged. With continued market skittishness over sovereign debt problems in Greece and other European countries, the Fed is likely to be cautious about plans for unwinding its expanded balance sheet. Fed watchers likely will focus on statement wording regarding the status of the economy-notably any signs of labor market improvement.”

But as the seemingly endless zero interest rate policy continues some at the FOMC are beginning to get antsy about the Fed potentially being behind the 8 ball as they were in 2002 and heading into the recession.  Of course, I think we are looking more and more Japanese.  The problems in Europe have almost certainly compounded our problems and that likely means the Fed will be even more hesitant to raise rates. A recent SF Fed paper confirms this thinking.  They believe the current environment is similar to Japan:

“some worry that maintaining a large Fed balance sheet with substantial holdings of securities as assets and bank reserves as liabilities could trigger an unwelcome rise in inflation expectations and inflation. However, the doubling of the Fed’s balance sheet has had no discernible effect on long-run inflation expectations measured in the Survey of Professional Forecasters. This insensitivity of inflation to an enlarged central bank balance sheet is consistent with Japan’s decade-long spell of price deflation.”

They conclude that ZRIP is justified perhaps as far as 2012:

“Many predict that the economy will take years to return to full employment and that inflation will remain very low. If so, it seems likely that the Fed’s exit from the current accommodative stance of monetary policy will take a significant period of time.”

The Fed is looking more and more powerless to me as we look more and more like Japan.

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