The Fed’s Meeting Minutes Are Moving Markets. Here’s Why.

Fed watchers face a greater challenge than usual in deciphering their significance, however, because a lot has changed in the economy since the April 28-29 meeting. The ensuing weeks have brought a surprisingly weak jobs report and a stronger-than-expected consumer inflation report, for example. 

Yet the document may still provide some clues about the central bank’s views. And officials have provided more perspective on policy since their latest meeting as well. Notably, Fed Vice Chairman
Richard Clarida
spoke at a conference on Monday and discussed recent economic data points. 

Here are a few key points in the minutes, and what Clarida said about a few of the topics on Monday: 

Taper Timeline

Investors got a bit more guidance about the Fed’s plans to start removing accommodation. Fed Chairman
Jerome Powell
has said the Fed wants to make “substantial further progress” toward its goals of full employment and a long-term average of 2% inflation before it wants to pare down its purchases. But while officials said it would “likely be some time” until the economy reached that goal, they did discuss the outlook for policy.

“A number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases,” the minutes said.

The disappointing April jobs report may give them pause, however, and most on Wall Street have said they expect the Fed to discuss longer-term plans to reduce, or taper, its purchases late this summer or during the fall. NatWest Markets said in a Monday note that it expects the Fed to start talking about tapering its purchases in September and actually start to reduce the pace of bond-buying next year. 

But the more detailed discussion in the latest meeting minutes came as a surprise to investors, sending Treasury yields marginally higher and prompting stocks to extend their losses. 

Treasury Demand

Unlike March’s meeting, there hasn’t been an attention-grabbing selloff in Treasuries to command officials’ attention. The steep climb in yields abated at the end of March, even as economic data showed and stronger price pressures in April. While the 10-year yield climbed in Wednesday afternoon trading, the yield has dropped to 1.68% from 1.74% on March 31.

Fed staff observed that “after rising sharply in recent months, longer-term Treasury yields declined modestly over the intermeeting period, even as market expectations for U.S. growth continued to be revised higher,” according to the minutes. Market “contacts reported that the earlier increases in yields drew in a range of investors, including foreign institutions, pension funds, and insurance companies.”

“Elevated” Financial Valuations

Fed critics may want to take note: Officials have been paying attention to the performance of riskier financial markets, and the boom in home prices as well.

“Regarding asset valuations, several participants noted that risk appetite in capital markets was elevated, as equity valuations had risen further, IPO activity remained high, and risk spreads on corporate bonds were at the bottom of their historical distribution,” the minutes said. “A couple of participants remarked that, should investor risk appetite fall, an associated drop in asset prices coupled with high business and financial leverage could have adverse implications for the real economy. A number of participants commented on valuation pressures being somewhat elevated in the housing market.”

“Attuned and Attentive” to “Transitory” Inflation? 

One popular line among Fed officials, including Powell, has been the assurance that this spring is expected to bring a “transitory” rise in inflation, mostly related to the reopening of the U.S. economy after the pandemic brought a sharp deceleration in activity last year. 

That was repeated in the minutes.

“A number of participants remarked that supply chain bottlenecks and input shortages may not be resolved quickly and, if so, these factors could put upward pressure on prices beyond this year. They noted that in some industries, supply chain disruptions appeared to be more persistent than originally anticipated and reportedly had led to higher input costs,” the minutes said. “Despite the expected short-run fluctuations in measured inflation, many participants commented that various measures of longer-term inflation expectations remained well anchored at levels broadly consistent with achieving the Committee’s longer-run goals.”

It is important to remember that the stronger-than-expected CPI report came out after the Fed’s latest meeting, however.

And at Monday’s conference, after the CPI release, Clarida seemed to be repeating a different type of assurance about inflation:  That the central bank would be “attuned and attentive” to any data showing higher price pressures. 

“In the CPI report, [reopening] did clearly put upward pressure on prices. Now our baseline view is that most of this is likely to be transitory, but we have to be attuned and attentive to the incoming data,” he said. “[The] key element of our mandate is price stability and an important component of price stability is well-anchored inflation expectations. If we were to see upward pressure on prices or inflation that threatened to put inflation expectations higher, I have no doubt we would use our tools to address that situation.” 

Labor-Market Outlook

One key factor that will determine the outlook for the Fed’s bond buying (and other accommodation) is the recovery in the labor market. And that remains up in the air, after the disappointing April jobs report.  According to the meeting minutes, Fed officials highlighted that even after March’s blowout report, there is a long way to go before U.S. employment returns to normal. That could provide an offset to meeting minutes that markets are interpreting as more hawkish than expected.

“Participants commented on the continued improvement in labor market conditions in recent months. Job gains in the March employment report were strong, and the unemployment rate fell to 6.0 percent. Even so, participants judged that the economy was far from achieving the Committee’s broad-based and inclusive maximum employment goal. Payroll employment was 8.4 millionjobs below its pre-pandemic level.”

Clarida discussed the April employment report on Monday as well. 

“What the April employment report said to me is that the way we bring supply and demand into balance in the labor market, especially in the service sector, may take some time and may produce some upward pressure on prices as workers return to employment, so we have to be attuned and attentive to that data flow,” he said. “Per that April employment report, we have not made substantial further progress, but as the data comes in we as a committee will have to evaluate that, and ultimately make a judgment.”

Ultimately, the importance of future labor-market data hints at the broader takeaway from the Fed’s meeting minutes:  Officials reiterated that coming months’ economic data will be the final arbiter of what the Fed does. And the economic data has been so volatile during the reopening that the picture could change significantly by the time the Fed meets again in June. 

That means investors will have to hold tight for a while longer to get a sense of when the central bank plans to start stepping back. 

“We’re reluctant to call this an equilibrium of any sort—rather it’s much more likely to prove a temporary holding pattern as macro expectations are further refined,” wrote Ian Lyngen, strategist with BMO, in a note before the minutes’ release. “Clearly, we have more questions than answers.”

Write to Alexandra.Scaggs@barrons.com