Is Data Dependency Dead At The Fed?

While it was certainly gratifying to know that the Federal Reserve may, finally, be ready to raise interest rates and normalize monetary policy before the end of the year, its reason for doing so, elucidated after last week’s FOMC meeting and Janet Yellen’s press conference left me shaking my head. To put it in economic terms, it didn’t make a whole lot of sense, given the Fed’s past behavior.

As we all know by now, the Fed, as widely expected, left interest rates unchanged last week, but hinted strongly for the umpteenth time that it’s almost ready to raise rates, just not right now.

“The committee judges that the case for an increase in the federal funds rate has strengthened but decided, for the time being, to wait for further evidence of continued progress toward its objectives,” the post-meeting announcement said.

Yet, at the same time, the Fed lowered its estimate for U.S. economic growth this year to 1.8% from its June forecast of 2.0%, which is also its new long-term view of the economy. That’s certainly justified by the reports we’ve been getting the last several weeks, which show the economy slowing, not gaining strength, in the second half.

So why would the Fed say that the case for raising rates had “strengthened” even as it downgraded its view of the economy and most recent reports back that up?

At her press conference that followed, Yellen said the Fed doesn’t “want the economy to overheat, and if things continue on the current course, I think some gradual increase will be appropriate.”

That makes even less sense. How can she be worried that the economy is “overheating” when it’s growing even slower than the Fed thought earlier?

While I oppose the Fed’s current zero-interest policy because it’s artificially propping up stock and bond prices, setting us up for a huge asset bubble burst, I certainly can’t argue that the economy is in strong enough shape to withstand sharply higher interest rates (although it can survive moderate, gradual ones). Yet Yellen and the Fed now seem to be arguing that the lackluster economy is not only “strengthening” but also somehow in danger of “overheating” and therefore the need to raise rates has arrived.

Is this the same Fed that hasn’t raised rates since last December for fear of stifling what little growth we have? Or has there been a fundamental change in the Fed’s strategy? Specifically, has the Fed abandoned “data dependency”? Will it now raise rates regardless of what the economy does? It certainly can be interpreted that way.

But something else appears to be going on. It looks like pressure is growing within the Fed to finally pull the trigger on a rate hike.

There was an unprecedented level of dissent against leaving rates alone at last week’s meeting. Three voting members—Esther George, Loretta Mester, and Eric Rosengren—all voted for a rate increase, “a rare challenge to Ms. Yellen’s leadership,” as the Wall Street Journal noted. Previously, just one brave soul, usually George, voted for a rate increase.

Could it be that a palace revolt is underway at the Fed? If so, it’s about time.

Yellen also responded to comments by Republican presidential candidate Donald Trump, who said she should be "ashamed of herself” for being “obviously political and … doing what Obama wants her to do" by keeping interest rates near zero.

“I can emphatically say that partisan politics plays no role in our decisions," Yellen said at her press conference. "We do not discuss politics at our meetings, and we do not take politics into account in our decisions."

As I’ve said previously in this column, that’s a little hard to believe, given the Fed’s past actions, or inactions. Making public policy, which is what the Fed does, is by definition political. But don’t some members of the Fed already “know what to do” without actually saying as much at the meetings? Well, it’s comforting to know that at least three members of the committee were willing to buck the majority. Maybe more will join them next time.

And what might happen next time?

The Fed’s next meeting is scheduled for November 1-2, just a week before the election, which in most people’s minds, including mine, means that the Fed will do nothing once again so as to quiet any criticism that it will make a move that might influence the election. But after last week’s meeting, might there be more surprises coming?

Since there is no press release scheduled after the November meeting, that would give Yellen and the Fed the occasion to make a controversial decision without having to face criticism from the public or the press. It would also give Yellen the chance to stick her finger, not saying which one, in Trump’s eye.

I admit that’s a little far-fetched, and a move in December seems more likely—if one is really coming this year. December’s a long way off. A lot more news, economic and otherwise, will happen between now and then that will influence Fed policy. While Yellen says a rate interest rate increase is coming soon, she’s done that before, only to pull back. But now it looks like some of her colleagues are more willing to stand up to her. December just got a lot more interesting.

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George Yacik
INO.com Contributor - Fed & Interest Rates

Disclosure: This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.