What does the Fed mean?

As any economist will tell you, the statements by the Federal Open Market Committee (FMOC) on the federal funds rate are cryptic, and purposefully so. In attempting to decode the press release, economists and the business press turn into what seems like a gaggle of girls performing a post-date analysis for a sorority sister: “When he said he liked you, did that mean he ‘liked you’ liked you, or just liked you?”

At the risk of likening Ben Bernanke to my ex-boyfriend, he has communication issues. The FMOC has 12 voting members, comprised of selected Federal Reserve Bank presidents and seven Fed governors, and has eight regularly scheduled meetings a year. After each of these meetings, a carefully crafted press release is issued to the public at 2:15p.m. on the day the FMOC meeting concludes. This statement contains the results of the deliberations of the meeting, and is about as extensive as Susan Lucci’s Emmy collection. The Fed uses the same format for the release each time, causing economists to intensely analyze words and phrases that were omitted from the current release. It barely fills a single page and contains virtually no numbers; it’s brevity leaves much room for interpretation by the media, and everyone is trying to figure out one thing: How does the Fed presently perceive the economy?

At the risk of getting trampled in the mêlée, we’re going to jump right in and do a little of our own interpretation, independent of the opinions from the news media (after all, turning to The New York Times for their opinion is like listening to the best friend who says you looked good with the perm).

The Federal Reserve Release is as follows (with my notations added in bold):
“The Federal Open Market Committee decided today to lower its target for the federal funds rate 25 basis points to 4-1/4 percent. (The function of this sentence to summarize the outcome of the FOMC vote on interest rates – as a note, September was the first time the central bank dropped the funds rate in four years.)

“Incoming information suggests that economic growth is slowing, reflecting the intensification of the housing correction and some softening in business and consumer spending. Moreover, strains in financial markets have increased in recent weeks. Today’s action, combined with the policy actions taken earlier, should help promote moderate growth over time.
(This brief section describes the economy’s current state based on the latest economic indicators.)

“Readings on core inflation have improved modestly this year, but elevated energy and commodity prices, among other factors, may put upward pressure on inflation. In this context, the Committee judges that some inflation risks remain, and it will continue to monitor inflation developments carefully. (The preceding and the following paragraphs are the most carefully studied in the release. This part highlights the Fed’s assessment of inflation and growth. What trends do they display, and what are the underlying forces that propel both?)

“Recent developments, including the deterioration in financial market conditions, have increased the uncertainty surrounding the outlook for economic growth and inflation. The Committee will continue to assess the effects of financial and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth.
(This paragraph is more forward-looking and offers some insight into what the FOMC will monitor most closely between now and the next meeting. Here’s where economists and investors get a sense of what the Fed will be inclined to do when it meets next.)

“Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman;…and Kevin M. Warsh. Voting against was Eric S. Rosengren, who preferred to lower the target for the federal funds rate by 50 basis points at this meeting.
(This lists the names of FOMC members who participated in the meeting that morning and how they voted. Generally speaking, participants on the FOMC will align their votes with that of the Fed chairman. On matters as important as setting interest rates, the preference is to have unanimity among the members. There are occasions when certain participants disagree so strongly with the Fed chairman’s recommendation that they will formally register their disapproval. (this release, for example))

“In a related action, the Board of Governors unanimously approved a 25-basis-point decrease in the discount rate to 4-3/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, and St. Louis.” (This statement is not typically included, but September, October, and December’s releases have all seen similar actions. The discount rate is the interest rate banks must pay when they borrow from the central bank. The discount rate cut is intended to alleviate liquidity issues many banks are now facing.)

The rationale behind the lower rates is that it will induce consumers and businesses to boost spending, which will invigorate economic activity. Therefore, the solution to what seems to be a slowing economy is speeding up the economy (wow, sounds so simple, and yet…). “But Erica, I’m scared!” I hear you saying. “I keep hearing the economy is so bad,” you nervously say. In that case, have you heard that from July through September, the economy logged its best growth in four years? I bet you didn’t. Ignore what you hear and get out there and invigorate that economy! (Besides, it’s better idea than getting a perm)