What is Tapering?

 
to taper or not to taper

If you have turned on a television, radio, or sat down at a computer in the last week, you have likely heard the term “tapering”. Media and economists are simply referring to the tapering (gradually decreasing) of the Federal Reserve’s Quantitative Easing efforts.

Currently, the Federal Reserve is buying $85 billion worth of bonds every month. Investors and economists are wondering when the “tapering” will begin, since such action can significantly influence the financial markets.

BernankeThe question is not “if” the Fed will taper, but “when”? According to Wednesday’s June 19th FOMC Statement, tapering QE will not begin this month, as the Fed decided to keep it’s $85 billion monthly bond-buying efforts in motion. In response to a question at the FOMC Press Conference, Mr. Bernanke made it clear, referring to QE policy that “…if things are worse, we will do more. If things are better, we will do less”.

In the post-FOMC Press Conference on June 19th, Mr. Bernanke did indicate that the Fed is expected to begin tapering later this year and possibly end purchases altogether in 2014.

“The committee currently anticipates that it would be appropriate to moderate the pace of purchases later this year. And if the subsequent data remain broadly aligned with our current expectations for the economy, we will continue to reduce the pace of purchases in measured steps through the first half of next year, ending purchases around mid-year.” – Federal Reserve Chairman Ben Bernanke

Good-old tapering

“Tapering” has dominated the media this week, but is not a new term in relation to Fed’s stimulus efforts and QE3.

Dallas Federal Reserve President Richard Fisher said in February that “We should begin to taper this thing off as unemployment improves,”. “If the economy continues to improve, I personally would expect that to be sometime this year.” Fisher said, adding that he’d prefer to do it “sooner rather than later.” (Fox Business)

The question of “when?”

At June 19th’s FOMC event Bernanke suggested the possibility of later this year, but the answer to this question was officially announced in September, yes, September. “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.” (Full September 13th Report) While it is understandable to be confused by an undefined “improved substantially” standard, Mr. Bernanke clarified recently, as in times past, that the Fed wants the labor market to improve and inflation at it’s 2% target.

QE3 or QE-infinity, whichever terminology you prefer to use when referring to the the never-ending, limitless quantitative easing effort of the Federal Reserve, has been under-way for about 9 months now. In Wednesday’s FOMC statement the Fed said they will taper with a balanced approach. “When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent.” (Full FOMC Statement)

Why will the Fed Taper

Tapering may not be in result of the labor market or hitting the inflation target though. It could take years for those goals to prove themselves sustained, if they are even hit.

Nomura’s (a financial service group) Bob Janjuah, believes that the Fed is going to taper for a different reason:
“Rather, I feel that the Fed is going to taper because it is getting very fearful that it is creating a number of significant and dangerous leverage driven speculative bubbles that could threaten the financial stability of the U.S. In central bank speak, the Fed has likely come to the point where it feels the costs now outweigh the benefits of more policy.”

Whether the Fed tapers because of fear or because of fiscal improvements, tapering is inevitable and could begin this year.

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