The main event for the markets in the coming week will be the 's policy meeting on Tuesday and Wednesday, after which it will attempt to communicate its policy leaning on a number of issues in its statement, due at 2:15 p.m. on Wednesday.
The Fed has a lot to mull over. In particular, the recent increase in Treasury yields and mortgage rates raises concerns that the rise could preempt a recovery. The markets will be especially interested in whether the move in long-term rates might cause the Fed to speed up its plans for purchasing additional assets, including Treasury securities, mortgage-backed and other asset-backed securities, in an effort to reverse the jump in long rates. In addition, investors are increasingly thinking about when and how policymakers will begin to reverse the massive support it continues to offer the financial system without fueling .
Several Fed officials have offered a less than worrisome view of the rise in Treasury yields. In recent days, yields have pulled back a bit, as the economic data have re-enforced prospects for only a tepid recovery. More important, policymakers believe that if yields are rising because the is emerging from recession, then they view that as a normal shift away from the safety of Treasury investments and toward riskier private-sector securities. Indeed, corporate borrowing rates have declined substantially.
Although policymakers appear to a take a benign view of the rise in Treasury yields, some analysts think the Fed might accelerate its program to purchase $1.25 trillion in mortgage-backed securities in an effort to help keep mortgage rates low, given 's crucial role in a recovery. So far the Fed has purchased less than half of its $1.25 trillion commitment.
Finally, amid recent signs that the recession is bottoming out, investors appear to be starting to build expectations of Fed tightening into shorter-term rates. Investors are betting in the market for fed funds futures that the Fed will begin to lift its target fed funds rate in the first half of next year. That is most likely something policymakers would like to gently discourage. The Fed's forecast for the economy, along with the views of most private economists, is not consistent with growth rates strong enough to generate inflationary pressures anytime soon. Fed officials have consistently said that one of the major policy mistakes after a financial crisis is to tighten policy too soon. It was a mistake made in the U.S. in the 1930s and in Japan in the 1990s.
The Fed eventually will face the task of withdrawing its massive provision of financial fuel, but the Fed's statement on Wednesday will not likely touch on this so-called exit strategy. More likely, that is something Fed Chairman will get into in his semi-annual report on monetary policy before Congress next month. For now, the Fed still has its hands full trying to assure investors that its efforts will continue to improve the flow of credit and promote a lasting recovery.
Here's the weekly economic calendar, from Action Economics: