Members of the Federal Reserve’s policy committee had a healthy debate over the merits of giving the struggling economic recovery further help during a key meeting earlier this month, new documents released Tuesday showed.
The Federal Open Market Committee ultimately decided to reinvest proceeds from its $2 trillion of mortgage holdings into the Treasury market to avoid an unwanted tightening of monetary policy just as the recovery proceeded at a weaker pace than previously anticipated. The minutes showed the Fed could take further steps to stimulate the economy if needed, including reinvesting in mortgages in the future.
While the Fed eventually reached a consensus on the decision to reinvest the proceeds to keep interest rates low, the Aug. 10 policy-setting meeting has been described as one of the most contentious under the chairmanship of Ben Bernanke.
According to The Wall Street Journal, more than a third of the 17 FOMC participants expressed reservations with the decision. Yet Thomas Hoenig, the more hawkish president of the Kansas City Fed, was the lone dissenter among the 10 voting members.
The minutes showed diverging viewpoints among policy makers. Some members of the FOMC worried that reinvesting would give the wrong signal to the markets, while others said they saw the need to prepare for further policy easing if the economy worsens.
"Most members judged, in light of current conditions in the MBS market and the committee's desire to normalize the composition of the Federal Reserve's portfolio, that it would be better to reinvest in longer-term Treasury securities than in MBS," the minutes said. However, policy makers left the door open to further mortgage investments, saying it could become "desirable if conditions were to change."
Given that the Fed has already cut interests rates to the lowest levels on record to combat the Great Recession, the central bank has a limited basket of tools left at its disposal to encourage growth and fight off the threat of deflation, which is a widespread drop in prices.
It’s not surprising to see the policy makers debating the merits of the Fed’s next move as Bernanke has previously described the economic outlook as “unusually uncertain.” After months of improvement in the economy, recent indicators have showed the recovery has slowed down significantly and the unemployment rate remains stubbornly high.
The "minutes confirm what those in the market already knew, that the recent weakening in the U.S. economy has become worrisome and that policy-makers are grappling with a possible policy response," Win Thin, senior currency strategist at Brown Brothers Harriman, wrote in a note.
Despite the debate at its most recent meeting, the minutes said the Fed continues to expect the recovery to pick up in 2011 and policy members see the risk of deflation as “quite small.” Yet policy makers acknowledged the threat of disinflation "increased somewhat."
Wall Street had little reaction to the release of the FOMC minutes, with the major indexes rising slightly in the wake of their release.
Bernanke helped soothe economic worries in the markets last Friday in a high-profile speech at Jackson Hole, Wyoming, where he pledged to use the Fed’s available tools to keep the recovery alive but said central banks alone cannot do all the work.
“For a sustained expansion to take hold, growth in private final demand--notably, consumer spending and business fixed investment--must ultimately take the lead. On the whole, in the United States, that critical handoff appears to be under way,” Bernanke said.