Fed Will Double Pace of Tapering

Rapid gains in employment and inflation are key reasons

In his post-meeting press conference on Dec. 15, 2021, Federal Reserve Chair Jerome Powell announced that the Federal Open Market Committee (FOMC) will double the rate at which it reduces monthly asset purchases, a process known as tapering. Specifically, the Fed will reduce its monthly purchases of U.S. Treasury securities by $20 billion each month and its purchases of U.S. agency securities by $10 billion each month.

The upshot of this is that the Fed will stop adding to its balance sheet by March 2022, rather than by mid-2022 as it previously forecasted. Powell indicated that a rapidly strengthening economy and particularly strong employment gains, coupled with inflation that has continued to increase, are the factors behind this decision.

Key Takeaways

  • At its December 2021 meeting, the FOMC decided to double the pace of tapering.
  • As a result, it will stop adding to its bond portfolio in March 2022, several months ahead of the previous timetable.
  • Strong economic activity, especially labor market gains, along with rising inflation are the reasons for this policy change.

Fed Funds Rate

Powell said that the FOMC has decided to keep interest rates "near zero" for now. However, by the end of 2022, the committee has a median target of 0.92% for the fed funds rate and expects it to be back at its "longer run value" by the end of 2024.

'Economic Activity at Robust Pace'

Powell noted that economic activity has been expanding at a "robust pace" and that aggregate demand has been strong. The median forecast of real GDP growth among FOMC members is now 5.5% in 2021 and 4.0% in 2022.

'Rapid Progress to Maximum Employment'

Powell observed that the unemployment rate dipped to 4.2% in November 2021. As a result, FOMC members lowered their projections for 2021 and 2022, during which time they expect the unemployment rate to drop to 3.5%.

While noting that "wages are rising at the fastest pace in many years," Powell added that "wage growth has not been a major contributor to inflation." Later on, in response to a question, he noted that inflation was down around the targeted 2% rate a few years back, when the labor market was tight, with the unemployment rate at about 3.5%.

Powell also indicated that employment gains among minorities and lower-wage workers have shown particular improvement recently. As a result, gaps in employment between minorities and non-minorities, or between lower-wage and higher-wage workers, have narrowed somewhat.

In a response to another question, Powell explained that the Fed uses a variety of indicators to measure progress toward maximum employment, warning that there is no simple formula to determine whether it has been reached. Among the "broad range of indicators" that the Fed monitors, Powell said, are the unemployment rate, the labor force participation rate, and job openings.

Labor Market 'Supply Side Problem'

In response to a question, Powell indicated that the labor market has been facing a "supply side problem," with many job openings going unfilled. Prior to that, in his prepared remarks, he stated that there has been a "welcome but subdued rise in labor force participation." He also noted that "bottlenecks and supply constraints have been more significant and longer-lasting than anticipated."

'Odds of Higher inflation Becoming Entrenched Have Increased'

In response to a question, Powell said that "the odds of higher inflation becoming entrenched have increased," although the FOMC does not see this as a high risk just yet. Nonetheless, he stated that inflation along with the Omicron variant of COVID-19 are the major economic risks right now and that the Fed is monitoring both these dangers closely.

In his prepared statement, Powell said that the median inflation projection by FOMC members is 5.2% for 2021 and 2.6% for 2022. He indicated that these projections are "notably higher" than what members made in September 2021.

Regarding Omicron, in testimony before the U.S. Senate Committee on Banking, Housing, and Urban Affairs on Nov. 30, 2021, Powell warned that this variant of COVID-19 could threaten the U.S. labor market and cloud the Fed's inflation forecast.

Cyberattack Risk

In reply to a question, Powell agreed that a cyberattack taking down a major financial institution or set of institutions is another major risk. He did not indicate what measures, if any, the Fed is taking to prepare for such an event.

Article Sources

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  1. Board of Governors of the Federal Reserve System. "FOMC Press Conference December 15, 2021." Accessed Dec. 15, 2021.

  2. Investopedia. "Powell Warns of Economic Threats From Omicron Variant." Accessed Dec. 15, 2021.