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Fed's Stimulus Strategy Unchanged

19 September 2013 - News - Editor

In recent months there has been widespread consensus on Wall Street that the Federal Reserve will start tapering off its economic stimulus strategies by about $10 billion per month for the balance of the year. So the announcement from the central bank that it would continue its bond-buying program indefinitely, as is, was met with a mixture of surprise and relief by Wall Street investors, pushing markets up considerably by close of trade Wednesday. The Dow Jones industrial average rose 146.44 points (0.94 percent) to 15,676.17, the Standard & Poor's 500 Index climbed 20.67 points (1.21 percent) to 1,725.43, and the Nasdaq Composite Index was up 37.94 points (1.01 percent) to 3,783.64.

The announcement was made by Federal Reserve Chairman Ben Bernanke following a meeting of the Federal Open Market Committee (FOMC) where it was decided that the Federal Reserve would determine its policies after careful consideration on what’s needed for the economy, even if this appeared to go against what the market was expecting. Stock investors will gain from the continuation of the Fed's stimulus program, but analysts on Wall Street were left puzzled as to how they had misread the market, particularly as back in May this year Bernanke had hinted at the Fed winding down its stimulus efforts. So a winding down of the stimulus appeared inevitable and the question ever since has been at what rate and to what degree this would happen.

When the Fed embarked on its strategy to facilitate economic recovery following the financial crisis, it entered uncharted territory. Bond-buying programs boosted stock prices and, due to low interest rates, made it easier for consumers to take out car and home loans. The Fed indicated that it would keep short-term interest rates near zero as long as the unemployment rate was above 6.5 percent. As the unemployment rate has dropped, the Fed has seen this as a sign that the economy is improving, but some critics note that the drop in unemployment numbers is more likely due to the fact that fewer people are job hunting and so are not counted as being unemployed.

In justifying the Federal Reserve's decision to maintain current levels of economic stimulus, Bernanke noted that it was looking for three things, namely, evidence that fiscal policy drag is diminishing; evidence that inflation is returning to a 'healthy' level; and evidence that job growth is sustainable. In the event of these happening, tapering off stimulus measures would be reconsidered.

 


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