Stocks pay stiff price for clarity
WASHINGTON — Wall Street investors wanted clarity from Federal Reserve Chairman Ben Bernanke.
They didn't like it when they got it.
Bernanke set the record straight on Wednesday about the Fed's bond-buying program. He said the Fed expects to scale back bond purchases later this year and end the program entirely by mid-2014 if the economy continues to improve.
In response, investors dumped stocks and bonds in anticipation of rising interest rates.
The Fed has been buying $85 billion worth of Treasury and mortgage bonds a month since late last year. The purchases pushed long-term rates to historic lows, fueled a record-breaking stock market rally, encouraged consumers and businesses to borrow and spend and provided a crutch to an economy hobbled by federal tax hikes and spending cuts.
Confusion about the central bank's intentions set in last month after the Fed released a summary of its April 30-May 1 meeting: Several Fed policymakers said they were open to reducing the bond purchases as early as this week's meeting.
Bernanke, meanwhile, told Congress that the economy still needed help, but also that the Fed might decide to cut back the bond purchases within “the next few meetings” — earlier than many had assumed.
The conflicting messages left investors bewildered. Just a hint of a pullback in the bond purchases sent bond prices plunging and their yields soaring.
So on Wednesday Bernanke, a former Princeton University professor, took pains to make the Fed's intentions as clear as possible.
Going beyond the formal statement the Fed's policy committee released after its two-day meeting this week, the chairman told reporters it would “be appropriate” to reduce the monthly bond purchases later this year and to end them by mid-2014 — if the economy performed as well as the Fed expects. He said the bond-buying probably will end when the unemployment falls to “the vicinity of 7 percent” from May's 7.6 percent.
Bernanke explained that the rest of the Fed's policymaking committee had “deputized” him to expand on what fit “into a terse FOMC statement.”
He said any reductions in bond buying, which keeps long-term rates low, would occur in “measured steps.” And the Fed will remain flexible: If the economy proves weaker than expected, the Fed might decide to restore the higher level of bond purchases to try to drive down long-term rates again.
Plans to reduce the purchases are “very data-dependent, and that's important,” says Joseph Gagnon, a former Fed official who is now senior fellow at the Peterson International Institute for Economics.
Bernanke likened any pullback in bond purchases to a driver letting up on a gas pedal rather than applying the brakes.
He stressed that even after the Fed ends its bond purchases, it will continue to maintain its vast investment portfolio — which has ballooned to $3.4 trillion — to help keep long-term rates down.