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Crisis-driven fiscal policy has taken the Fed hostage: Erica Alini

Taper in 2014 now most likely

(Federal Reserve Chairman Ben Bernanke ponders his next move (Photo: Bloomberg/Getty)

Federal Reserve Chairman Ben Bernanke (Photo: Bloomberg/Getty)

The U.S. September jobs report dispels any lingering doubts about whether the Federal Reserve announce it will start pulling back its $85-billion a month bond buying program at its upcoming Oct. 29-30 policy meeting. It won’t.

The economy produced 143,000 new next jobs in September, the report shows. That’s not terrible but below expectations and well under the 224,000 jobs average of the three months before the Fed started putting out word of a possible taper in April. And that very mediocre result will be the last clear report the Fed gets to see until its last meeting of the year, in December, since the effects of the shutdown are likely to muddy the jobs data for October and November, notes the Wall Street Journal’s Jon Hilsenrath. Most economists now expect the Fed to sit tight until early 2014.

But is the Fed stuck in waiting mode because it thinks current levels of quantitative easing are needed to help American jobseekers or simply because it fears that pulling back will rattle an economy already weakened by continued fiscal fiascos in Washington?

After all, back in September, Fed Chairman Bernanke explicitly cited concerns about another damaging standoff on the budget in October as one of the reasons why the central bank decided to hold off tapering.

However, the Fed has already effectively reduced some of its monetary stimulus in a way it can’t easily undo. As I’ve noted before, 10-year Treasury yields have risen by about one percentage point since the beginning of May just because Bernanke started talking about dialing back. This means the Fed is getting less stimulus bang for the same amount of bond-buying buck.

Fiscal policy that’s inconsistent with monetary policy is an “important” threat to central bank independence, New York Fed President William Dudely noted in a speech last week. “When the objectives differ, fiscal dominance can become a major problem for the central bank,” he said.

And Washington’s fiscal policy has been at odds with the Fed’s objectives in several respects. As the U.S. central bank pumped in stimulus, Washington has been cutting or halting spending in fits and starts via sequester and now the shutdown. This means that just as U.S. states, which are finally seeing healthier budgets, start hiring again, federal agencies are laying off and furloughing their own employees. The trend was evident in the job report, which showed 22,000 net new state government jobs and a net loss of 7,000 federal government jobs (excluding postal workers).

Also, as the Fed started openly discussing the future course of interest rates in an attempt to help businesses and families plan their borrowing, crisis-driven fiscal policy has made virtually impossible for the public to predict whether, say, taxes might rise or vital regulation might suddenly change. Without this kind of uncertainty, the economy would have produced 900,000 more jobs than it has since 2009 and the unemployment rate would be 0.6 per cent lower, estimates Macroeconomic Advisers.

The impasse in Washington, then, might be tying the Fed down  in ways that go well beyond the central bank trying to avoid major policy announcements coinciding with new political crises and having to wait longer for essential economic releases. By slowing job creation, U.S. fiscal policy is also delaying the date when the job market will meet the targets to which the Fed has bound itself in order to unwind its expansionary monetary policies.

Erica Alini is a reporter based in Cambridge, Mass., and a regular contributor to, where she covers the U.S. economy.
Follow @ealini