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 With the world's financial markets on edge, the U.S. central bank
wraps up a two-day meeting with a highly anticipated policy
announcement at 2 p.m. (1900 GMT), followed by Ben Bernanke's last
news conference as Fed chairman a half hour later.
Recent growth in jobs and retail sales, as well as a fresh budget
deal in Congress, has convinced a growing number of economists the
time is right for the Fed to trim its $85 billion in monthly bond
purchases. The 15-month-old program is meant to put downward
pressure on long-term borrowing costs in order to stimulate
investment and hiring.
But many observers believe the central bank will wait until early in
the new year, given persistently low inflation and the fact that the
world's largest economy has stumbled several times in its crawl out
of the 2007-2009 recession.
"It is increasingly looking like a coin flip," said Michael Feroli,
JPMorgan's chief U.S. economist.
If it waits, the Fed might still decide to better telegraph how it
plans to wind down the stimulus program, as a handful of its 18
policymakers have suggested in recent weeks.
The Fed has kept interest rates near zero since 2008 and plans to
leave them there for a while longer irrespective of when it begins
to taper the bond buying. The purchases have swelled its balance
sheet to a record $3.9 trillion.
The unprecedented money-printing has helped drive U.S. stocks to
record highs and sparked sharp gyrations in foreign currencies,
including a drop in emerging markets this year as investors
anticipated an end to the easing. There has also been some anxiety
in the United States that it could fuel inflation and hard-to-detect
asset price bubbles.
Fed officials will also update their economic forecasts on
Wednesday, likely acknowledging the faster-than-expected drop in
joblessness to a five-year low of 7 percent last month. Perhaps most
critically for investors, they could also tinker with their
longer-term policy promises.
MESSAGE TO MARKETS
As it stands, officials have said the Fed will continue buying bonds
until there is a substantial and sustainable pick-up in the labor
market. They also want to see inflation rise somewhat from its
current level of near 1 percent.
Bernanke will likely double down on his message that interest rates
will stay near zero at least until unemployment falls to 6.5
percent, as long as inflation does not threaten to top 2.5 percent.
The Fed could even lower that 6.5 percent jobless rate threshold, or
add a third marker that promises low rates if inflation remains
below 1.5 percent — moves that would be more likely if it decides
to reduce its bond buying.
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The fear is that a cut to the Treasury and mortgage-bond purchases — even if only by around $10 billion per month — will lead to a market selloff that will hike mortgage rates and other borrowing costs,
choking the economy's recovery. Many borrowing costs, including for
mortgages, are pegged to the yield on the 10-year Treasury note,
which moves inversely to its price.
Accompanying any reduction with steps that offer reassurance that
the Fed is not withdrawing its monetary support for the economy
could help temper the market reaction.
"It's clear they'd like to see these asset purchases scaled back,"
said Jerry Webman, chief economist at OppenheimerFunds in New York.
"It's also clear they're going to ... do what's necessary with
monetary policy to support the economy."
According to a Reuters poll taken before lawmakers struck a budget
deal last week, only 12 of 60 economists expected the Fed to scale
back its purchases this week. Twenty-two predicted it would wait
until January, while about half pointed to March.
With inflation so low, "a tightening move would be quite unusual by
historical standards," Goldman Sachs economist David Mericle wrote
in a client note. He expects the Fed to hold off until March.
Fed officials "will be reluctant to deliver a hawkish surprise that
could tighten financial conditions and raise doubts about their
commitment to the inflation target" of 2 percent, he added. The
government said on Tuesday that consumer prices rose just 1.2
percent over the last 12 months.
The Fed policy meeting will be the penultimate one of Bernanke's
tenure. His second four-year term as chairman of the central bank
expires on January 31, just two days after the close of the Fed's
first policy meeting of 2014.
Janet Yellen, the Fed's vice chair and a strong proponent of the
Fed's aggressive policy response to the recession, is positioned to
succeed Bernanke. The U.S. Senate is expected to vote to confirm her
for the post on Thursday.
(Reporting by Jonathan Spicer; editing by Leslie Adler)
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