The Fed Tease Continues - But For How Much Longer?

Way back in high school, my freshman algebra teacher told us about Zeno’s Paradox, which the Greek philosopher (Zeno, not my teacher) explained through the story of Achilles and the Tortoise. According to the story, the two were engaged in a footrace, but no matter how much faster Achilles could run compared to the tortoise, he could never quite catch up to him. Why? Because while Achilles could consistently halve the distance between himself and the slower-footed reptile, the gap between the two could be reduced fractionally an indefinite number of times, so, therefore, he could never catch up – theoretically speaking, of course.

I was reminded of that story when I read the media headlines about the release last week of the minutes of the Federal Reserve’s September 20-21 meeting. Once again, the Fed said it was almost, but not quite, ready to tighten monetary policy. This time, the Fed used the words “relatively soon” to describe the timing of its next rate increase, which would be the first one since last December.

“Several members judged that it would be appropriate to increase the target range for the federal funds rate relatively soon if economic developments unfolded about as the committee expected,” the minutes said. Also, those members – still the majority – who still wanted to “await further evidence” before voting for a rate hike said it was a “close call” in their decision to wait.

In other words, like Achilles chasing the tortoise, the Fed just keeps getting closer and closer to raising rates but just never gets to that point.

On an encouraging note, “several participants expressed concern that continuing to delay an increase in the target range implied a further divergence from policy benchmarks based on the Committee's past behavior or risked eroding its credibility, especially given that recent economic data had largely corroborated the Committee's economic outlook,” the minutes said. This may be a reference to Kansas City Fed President Esther George, Cleveland’s Loretta Mester and Eric Rosengren of Boston, who all dissented at the meeting in favor of higher rates.

While many in the financial markets believe “relatively soon” means a rate increase is coming at the December meeting – not the November meeting – there’s no real reason to think it will happen at either meeting. After all, if a majority of the FOMC continues to vote against a rate increase even though the economy has already reached the point to justify one, what hope is there it will ever do so?

So, is there anything that might move the Janet Yellen Fed to start normalizing interest rates and monetary policy more immediately than “relatively soon,” whatever that means?

Well, the results of the presidential election might just do the trick, no matter who wins.

According to an article on Bloomberg last week, analysts at Citigroup “posed an unspeakable question: will a political storm sweep Federal Reserve Chair Janet Yellen after the election that will force her to quit before her term ends in February 2018?”

The article cited a research report from the bank that said: “recently intensified scrutiny of Fed activities and policy decisions, especially amid the 2016 election season, has prompted speculation that Fed Chair Yellen may exit her position and the board itself, sooner rather than later."

While GOP nominee Donald Trump’s displeasure with the Fed, and Yellen in particular, is well known, Democrat nominee Hillary Clinton has her own issues with the central bank. While Clinton “has struck a far more conciliatory tone on the Fed's independence, which hasn't stopped her from proposing significant governance reforms at the central bank, including a desire to alter the composition of Fed personnel,” Bloomberg noted.

Last May, for example, Clinton said: “the Fed needs to be more representative of America as a whole and that commonsense reforms — like getting bankers off the boards of regional Federal Reserve banks — are long overdue.” Also, Elizabeth Warren, the Democrat senator from Massachusetts and Clinton supporter and no fan of big banks, has in the past called for more openness on Fed decisions.

A Trump victory would most likely expedite Yellen’s departure before the expiration of her four-year term as Fed chair, which expires February 3, 2018, and possibly her term as a member of the board, which ends in early 2024. But, according to the Citi report, as quoted by Bloomberg, Yellen’s long-term tenure at the Fed is no gimme if Clinton wins. “It is not clear that Clinton would nominate Yellen for a second term,” the Citi report said. “Moreover, Clinton has expressed a desire to make significant changes in Fed governance, some of which might encroach upon its current degree of independence.”

At the same time, pressure is growing within the Fed against Yellen’s predilection to stand pat. As we saw at the September meeting, three members voted for a rate increase while it was a “close call” among those still voting against.

Clearly, the Fed is creeping closer to rate normalization, whether for fundamental economic or political reasons or both. Whether that pressure is enough for the Fed to overcome Zeno’s Paradox remains to be seen.

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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.