Tightening the monetary policy

Pianalto said that no single data point will determine when the Federal Reserve finally tightens its policy, underpinning the notion stressed by the Fed’s chairwoman, Janet Yellen that a “more generic approach” using a range of economic data factors would be considered to decide on increasing the Fed funds rate going forward.

Why may the Fed’s next move not be single-data dependent?

Janet Yellen comments from the March FOMC meeting

The Fed’s current chairwoman, Janet Yellen, said on her speech on March 19, 2014, “labor market has improved more than expected; however, loose policy will continue until the outlook for the labor market would improve substantially in a context of price stability.” For assessing the labor market, along with the unemployment rate, the Fed would closely watch the Job Openings & Labor Turnover Survey (or JOLTS) report and the wage inflation. To know more on Janet Yellen views on the economy, read Tapering and Treasury yields: Important takeaways.

Pianatlo reiterated Yellen’s notion

The Fed, which has kept its benchmark interest rate near zero for more than five years, “will take into account a wide range of information in determining how long to keep it there.”

“We will be watching labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments,” Pianalto said. “It is a complicated world out there, and no single data point will determine our next move.” On March 26, 2014, when Pianalto delivered the speech, the Treasury yields declined including the U.S. ten-year Treasury yield, which was down by 4 basis point to 2.71%. The downward pressure on the Treasury yield was owing to the poor mortgage applications and home sales data released on the same day.

With the fall in the Treasury yields, bond prices reflected in the Vanguard Total Bond Market ETF (BND) and iShares Barclays 20+ Yr Treasury Bond (TLT) increased by 0.3% and 0.8%, respectively. To negate the effect of the interest rates fluctuations, investments in the PowerShares Exchange-Traded Fund Trust II (BKLN) can be considered. The ETF pays a floating rate interest benchmarked to LIBOR rate and adjusts with the change in the market interest rates. Plus, inverse bond funds like the ProShares Short 20+ Year Treasury Fund (TBF) and the Barclays iPath US Treasury Ten-Year Bear ETN (DTYS) can be a part of the investment portfolio to hedge against the effects of rising interest rates. Inverse bond ETFs provide the inverse return of the underlying benchmark index.

Read about what Sandra Pianalto had to say about the U.S. economic future growth in Part 8 of this series.

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