Fed Dissatisfied with Current Pace of Economic Recovery

The minutes from the June Fed meeting provided a little something for everyone as Fed officials discussed both an exit strategy and… drum roll please… the possibility of more quantitative easing (dubbed as QE3).

A quick review of the minutes shows that the Fed is clearly in a reactive mode at the present time and that there is a great deal of "discussion" taking place about what ought to be done next. For example, some of the FOMC members appear ready to provide more monetary easing if the economic recovery stalls further while others argue that if inflation doesn't moderate soon, the Fed should begin tightening rates.

The minutes showed that the Fed is not satisfied with the current pace of recovery. Although officials generally believe the pace of the economy will pick up in the second half of the year, most of the meeting participants judged that the pace of economic activity was likely to be somewhat slower over the coming quarters than previously thought in April.

There was also a discussion of the sovereign debt problems in Europe. The minutes suggest that there is some concern in the committee about both the escalation of the fiscal difficulties in Greece and the potential spread to other peripheral European countries. One official said that such an event could cause "significant financial strains in the United States."

The political hot potato, the possible effect on the financial markets given the failure to raise the statutory federal debt ceiling in a timely manner, was also discussed in the meeting.

To the surprise of some, the FOMC also held a discussion regarding the potential for a QE3 program. The minutes state, "On the one hand, a few members noted that, depending on how economic conditions evolve, the Committee might have to consider providing additional monetary policy stimulus, especially if economic growth remained too slow to meaningfully reduce the unemployment rate in the medium run. On the other hand, a few members viewed the increase in inflation risks as suggesting that economic conditions might well evolve in a way that would warrant the Committee taking steps to begin removing policy accommodation sooner than currently anticipated."

Finally, the FOMC provided specifics on what their exit strategy from the current emergency mode would look like. First, the Fed will Fed will stop reinvestments some or all principal payments on holdings. Next, they will modify guidance on the path of federal funds target rate, which would be a precursor to the raising federal funds target rate.

After rates start to rise, the Fed would start selling securities they bought during the crisis, "sometime after the first increase in the fed funds target rate." In addition, the minutes show that the timing and pace of sales will be communicated to the public in advance.

Once sales begin, the members say the pace of sales expected to eliminate holdings of agency securities over 3-5 year timeframe. And lastly, any adjustments to this strategy would be in response to any new economic and financial developments.

By. David Moenning of Top Stock Portfolios