A ‘taper’ in a teapot

This was the meeting where economists expected the Fed to announce the ‘tapering’ of its monthly purchases of $85 billion of Treasury securities and mortgage-backed bonds. According to a Bloomberg News survey of 34 economists last week, they expected the Federal Reserve to taper its monthly bond buying by $10 billion, to $75 billion.1 But they were wrong.

Market reaction was harsh when Mr. Bernanke suggested in June that it would be “appropriate to moderate the monthly pace of purchases later this year [and] continue to reduce the pace of purchases in measured steps through the first half of next year, ending purchases around mid-year”.

The real damage was felt by the bond market with the yield on the 10-year note increasing from 2.16% to as high as 3%. This 39% increase in yield had bond investors facing an annual loss for only the third time in 33 years.2 However, after guiding towards a reduction in stimulus for the last four months ‘tapering’ was not to be – at least not yet.

The FOMC “decided to await more evidence that progress will be sustained before adjusting the pace of its purchases”. They concluded that “downside risks” to the outlook have diminished, the tightening of financial conditions observed in recent months, if sustained, could slow the pace of improvement.” Gold and silver rocketed upwards and the Dow Jones Industrial Average and the S&P 500 were both pushed to new all-time nominal highs. In fact, monetary accommodation in 2013 is much larger than the headlines would suggest.

According to data compiled by Bloomberg, the Fed’s balance sheet has been increasing at an average rate of $91.9 billion each month during 2013 – yes, more than the $85 billion headline number. While the Fed has been buying assets at a rate of $85 billion per month, they have also been further adding to their purchases by investing earned interest and proceeds from maturing bonds. The largest single monthly addition to their balance sheet in 2013 was during the month of April when the Federal Reserve added $114.7 billion of assets, almost $30 billion more than the stated purchases of $85 billion. These monthly additions vary given the timing of maturing bonds but the accommodation provided by the Fed is much larger than the headlines suggest.

For weeks now, gold bears have been out in force believing that ‘tapering’ would mark another leg down for gold. Given the drop in the gold price each time tapering is even hinted at, one might not be surprised at this prediction. But with tapering delayed, gold and the other precious metals appear to have found a bottom and now have limited downside.

While much ink has been spilled about ‘tapering’ of assets purchases, it now seems that this extended discussion of reducing monetary accommodation was nothing more than a ‘taper in a teapot’.

Creative Commons image from the Smithsonian Institution