The International Monetary Fund sees the Federal Reserve maintaining large monthly bond purchases until at least the end of this year and urged the central bank to carefully manage its exit plan to avoid disrupting financial markets.
Unwinding a policy of record-low interest rates and $85 billion in monthly bond-buying known as quantitative easing will be challenging even though the Fed has “a range of tools” to withdraw the stimulus, the IMF staff wrote in its annual assessment of the U.S. economy.
“Effective communication on the exit strategy and a careful calibration of its timing will be critical for reducing the risk of abrupt and sustained moves in long-term interest rates and excessive interest-rate volatility as the exit nears,” according to the concluding statement released today.
Such moves “could have adverse global implications, including a reversal of capital flows to emerging markets and higher international financial market volatility,” the staff said in the report.
Concern is already showing, with almost $3 trillion that has been erased from the value of global equities since Fed Chairman Ben S. Bernanke said May 22 the central bank could scale back stimulus efforts should the job market outlook show “sustainable improvement.”
The Standard & Poor’s 500 Index, which has risen in each of the past seven months, declined 0.3 percent to 1,631.36 at 11:59 a.m. in New York. The yield on 10-year Treasury notes was 2.11 percent compared with 2.15 percent late yesterday.
“We are seeing clearly that communication will be key in order to monitor expectations and in order to reduce uncertainty and this will certainly be seen in the weeks and months to come,” IMF Managing Director Christine Lagarde said during a press conference in Washington today.
Lagarde said the fund’s projections assume a “very slight” decline in the amount of monthly bond purchases in 2014, and no tightening. The lower growth forecasts reflect that, in contrast to April, the fund assumes that automatic budget cuts that started to come into effect this year won’t be phased out.
Bernanke will have an opportunity to retune the Fed’s message during a press conference on June 19 after the Federal Open Market Committee concludes a two-day meeting and releases a policy statement.
The Washington-based IMF left its U.S. growth forecast for this year unchanged at 1.9 percent, which assumes that budget cuts may trim as much as 1.75 percentage points off the expansion. It also lowered its prediction for 2014 to 2.7 percent, from 3 percent growth predicted in April.
Investors’ overreaction to the Fed’s initial steps to normalize its monetary policy is also a risk to the country’s growth outlook, according to the fund’s report, which said other threats include a stronger impact of fiscal tightening and a reigniting of Europe’s debt crisis.
IMF economists meet with government and central bank officials to prepare their estimates. The full report will be discussed by the IMF board next month.