I think Doug Noland’s (almost) weekly piece is a must-read. This time through he touches on Janet Yellen’s recent confirmation hearings before the Senate, picking up on a very interesting exchange with Senator Bob Corker…
Senator Robert Corker: “We talked a little bit about the Fed in the early summer began to talk about moderating the pace at which it was going to be making purchases. And the market had a pretty stringent reaction. It was like… the Federal Reserve appeared as if it had touched a hot stove and that this policy was going to greatly affect, if you will, the wealth effect that you were trying to create… And so the Fed jumped back. And it seemed to me - and I think you discussed this a little bit in the office - that the Fed had become a prisoner to its own policy. That to really try to step away from QE3 was really going to shatter possibly the markets and therefore take away from the wealth effect. And I wonder if you could talk a little bit about some of the discussions that were taking place during that time.”
Yellen: “Well, Senator, I don’t think that the Fed ever can be or should be a prisoner of the markets…”
Senator Robert Corker: “But to a degree in this case, it did affect the Fed, did it not?”
Yellen: “Well, we do have to take account of what is happening in the markets, what impact market conditions are likely to have on spending and the economic outlook. So it is the case, and we highlighted this in our statement, when we saw a big jump in rates - a jump that was greater than we would have anticipated from the statements that we made in May and June - and particularly saw mortgage interest rates rise in the space of a few months by over a hundred basis points, we had to ask ourselves whether or not that tightening of conditions in a sector where we were seeing a recovery and a recovery that could really - recovery in housing that could drive a broader recovery in the economy - we did have to ask ourselves whether or not that could potentially threaten what we were trying to achieve. But overall, we are not a prisoner of the markets. I continue to feel that we’re seeing an improvement in the labor market, which was the goal of the program. And we will continue to evaluate incoming data and to make decisions on the program in that light going forward.”
Yellen acknowledges that the move up in rates, after hints of a taper, took the Fed by surprise. In other words, they started to lose control and the response was to immediately back off any kind of hawkish stance. And that supports two ideas: (1) that the move in rates was not about an improving economy as the goldilocks crowd tried to suggest; and (2) the Fed’s machinations can never stop unless they are prepared for rates to march much higher.
