Fed Poised to Set Portfolio Reduction Plan in Motion

By David Harrison Features Dow Jones Newswires

The Federal Reserve on Wednesday likely will announce the beginning of a yearslong program to shrink its bond portfolio and could offer clues about the prospects for another rate increase this year. Officials will release a statement and their updated quarterly economic projections at 2 p.m. EDT, after the conclusion of their two-day policy meeting. Chairwoman Janet Yellen holds a press conference at 2:30 p.m. Here's what to watch.

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Watch the Dots

The big question for many central bank observers isn't what's going to happen at this meeting but rather what the Fed will signal about the likely path of interest rates this year and beyond. In June, officials penciled in one more interest rate increase in 2017. But a series of weak inflation reports gave several of them second thoughts about the tentative plan. Did those doubts dissipate following Thursday's relatively strong inflation report? Are we back on track for a December move? Officials' latest economic projections -- particularly their so-called dot plot that reveals where they expect interest rates to go -- could give a hint. Also important will be whether officials lower the number of rate increases they envision in coming years, and how high they expect borrowing costs to go before they stop.

Figuring Out Inflation

Inflation has stopped behaving the way policy makers expect it to. The growing economy and strong labor market should be pushing it up. Instead, it has been sluggish for most of the year, although it showed signs of picking up recently. The models that Fed officials rely on anticipate inflation will rise toward their 2% target over the next couple of years. Watch their new economic projections for signs of whether officials have changed their views on when they expect to reach their goal.

The Incredibly Expanding Labor Market

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The labor market continues to improve. Employers keep adding jobs, pushing down the unemployment rate and drawing more workers off the sidelines. Right now, the unemployment rate is lower than the point the Fed considers full employment, which means the economy could start overheating, causing inflation to rise too much. But since there are few signs of that happening, officials could lower their estimate of the jobless rate that indicates full employment. That would reflect another way that central bankers are questioning their understanding of how the economy works.

Balance Sheet Questions

The Fed has already provided details of how it plans to reduce its hoard of Treasurys and mortgage-backed securities. And it appears poised to announce Wednesday it will start the process in October.

But we still don't know how big the central bank's balance sheet will be at the end, a matter that could have implications for the bond market. Ms. Yellen at her press conference could provide a sense of her thinking on the topic and the factors that will go into the decision.

What Comes Next?

Hanging over Ms. Yellen's press conference is the question of who will run the Fed once her term as chairwoman expires early next year. In late July, President Donald Trump told The Wall Street Journal he was considering nominating her to a second term or naming his top economic adviser Gary Cohn to the job, and he was looking at other unnamed candidates as well. But earlier this month, people familiar with Mr. Trump's thinking said he was unlikely to pick Mr. Cohn. Ms. Yellen likely will be asked whether she has discussed the issue recently with White House officials, including the president's daughter and adviser Ivanka Trump, who had breakfast with the Fed chief in July.

Write to David Harrison at david.harrison@wsj.com

(END) Dow Jones Newswires

September 19, 2017 13:14 ET (17:14 GMT)