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Senior Federal Reserve Officials Open Doors to Faster “Scaling” Bond Purchase Program

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The Vice Chairman of the Federal Reserve (Fed/FED) on Friday opened the door to a faster exit from its large-scale bond purchase program, suggesting that the central bank may take action earlier than expected to curb inflation.

Richard Clarida said that the Federal Open Market Committee may consider discussing the planned “cutting” pace at its upcoming policy meeting in December.

Earlier this month, the Federal Reserve began to reduce the monthly purchases of US Treasury bonds and agency mortgage-backed securities by US$120 billion, and said it intends to reduce it by US$15 billion per month. This makes it hopeful that the stimulus measures will be completely cancelled before the middle of next year.

At the time, the Fed stated that “if changes in the economic outlook are necessary”, it is “prepared to adjust” the pace of the reduction process.

On Friday, Clarida reiterated his view that he believes there is an “upside risk” to inflation and expects growth in the fourth quarter of 2021 to be “very strong”.

“I will pay close attention to the data we have obtained between now and the December meeting, where it might be appropriate to discuss speeding up our balance sheet reduction,” he said. At an event hosted by the San Francisco Fed.

Given that Fed Chairman Jay Powell has stated that the Fed may avoid adjusting policy interest rates while still buying government bonds, a quicker exit from the asset purchase plan may pave the way for early interest rate hikes.

Earlier on Friday, Fed Governor Christopher Waller said he would prefer to speed up the downsizing, which would give the central bank more flexibility when raising interest rates “when necessary.”

He said at an event hosted by the Financial Stability Center: “The rapid improvement in the labor market and deteriorating inflation data have prompted me to tend to accelerate the pace of reduction and cancel the easing policy more quickly in 2022.”

The price of short-term government bonds tracked every word of policymakers, and Clarida’s comments reverberated in the $22 trillion U.S. Treasury market.

The yield of the two-year Treasury bond jumped by 0.05 percentage points from the low point when the U.S. Treasury bond rose earlier in the trading session, which is the most sensitive response to changes in the Fed’s policy. At 0.49%, it is still slightly lower than the 20-month high reached earlier this week. When bond prices fall, yields rise.

After Clarida’s comments, the implied interest rate on federal funds futures has also risen, and traders expect the Fed to raise interest rates by a full 25 basis points before July.

After the report was released, the U.S. stock market weakened, and the benchmark S&P 500 index reversed its earlier gains. The index was once close to a record high, and the trading price fell 0.1% in the afternoon.

Ashish Shah, co-chief investment officer of fixed income at Goldman Sachs Asset Management, said that he believes the central bank is trying to make itself more flexible in dealing with economic data, including the highest inflation data in 30 years.

“Over time, the Fed will become more dependent on data, and we expect policy uncertainty to rise as we enter the second half of next year’s contraction,” he said.

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