In his introductory statement during today’s press conference, ECB President Mario Draghi said that the bank’s official rate would remain at 0.5%. This time, instead of saying that the ECB will do “whatever it takes” to support the euro zone’s currency and economy, he pledged easy money “for as long as necessary.” This is what he actually said:

Looking ahead, our monetary policy stance will remain accommodative for as long as necessary. The Governing Council expects the key ECB interest rates to remain at present or lower levels for an extended period of time. This expectation is based on the overall subdued outlook for inflation extending into the medium term, given the broad-based weakness in the real economy and subdued monetary dynamics.

He stated that the risks for the euro zone economy remain on the downside:

The recent tightening of global money and financial market conditions and related uncertainties may have the potential to negatively affect economic conditions. Other downside risks include the possibility of weaker than expected domestic and global demand and slow or insufficient implementation of structural reforms in euro area countries.

He must have been pleased to report that financial conditions have improved significantly in the euro zone:

Since the summer of 2012 substantial progress has been made in improving the funding situation of banks and, in particular, in strengthening the domestic deposit base in a number of stressed countries. This has contributed to reducing reliance on Eurosystem funding, as reflected in the ongoing repayments of the three-year longer-term refinancing operations (LTROs). In order to ensure an adequate transmission of monetary policy to the financing conditions in euro area countries, it is essential that the fragmentation of euro area credit markets continues to decline further and that the resilience of banks is strengthened where needed. Further decisive steps for establishing a Banking Union will help to accomplish this objective. In particular, the future Single Supervisory Mechanism and a Single Resolution Mechanism are crucial elements for moving towards re-integrating the banking system and therefore require swift implementation.

In its statement today, the Bank of England’s Monetary Policy Committee (MPC) announced that the bank’s official rate will remain at 0.5% and its QE target will remain at £375 billion. The MPC noted that the UK economy is improving, but “it remains weak by historical standards and a degree of slack is expected to persist for some time.” The statement expressed some concern about the rise in interest rates around the world and the increased volatility of asset prices since the May meeting of the MPC. Inflation in the UK remains above the MPC’s target:

Twelve-month CPI inflation rose to 2.7% in May and is set to rise further in the near term. Further out, inflation should fall back towards the 2% target as external price pressures fade and a revival in productivity growth curbs domestic cost pressures.

Not mentioned was the impact of a weaker pound on inflation. UK policymakers are probably hoping that a weak currency will boost exports more than it will boost inflation. On July 1, Markit’s press release reported that UK manufacturing is picking up:

The UK manufacturing sector maintained its solid second quarter performance into June, with levels of production and new business rising at the fastest rates since April 2011 and February 2011 respectively. Domestic market conditions improved further, while demand from overseas also strengthened. At 52.5 in June, up from a revised reading of 51.5 in May, the seasonally adjusted Markit/CIPS Purchasing Manager’s Index® (PMI®) posted above the neutral mark of 50.0 for the third month running. Moreover, the rate of improvement signaled by the PMI was the steepest for 25 months. The average reading over the second quarter as a whole (51.4)was the highest since Q2 2011….Incoming new orders rose for the fourth consecutive month in June. Manufacturers reported solid demand from domestic markets and clients based in Europe, China, North America, Scandinavia and the Middle East.

On July 3, Markit’s press release reported that UK services are also improving:

UK service sector growth accelerated to its highest level since March 2011 during June as incoming new business rose at a rate unmatched for six years. The sharp increase in new business led to a marked rise in backlogs of work, and encouraged companies to take on additional staff to the strongest degree since August 2007…. After accounting for seasonal factors, the headline Business Activity Index recorded 56.9 in June, up from May’s 54.9 and the highest reading for 27 months. Growth has now been recorded for six successive survey periods, and has continually improved throughout this sequence.

(The minutes of the MPC’s meeting will be published at 9.30 a.m. on Wednesday, July 17.)

This short analysis of the Fed’s flow of funds data through the end of last year found that:

Although flow of funds data suggest household wealth has nearly rebounded to its pre-recession peak, adjusting for inflation, population growth, and a risk-free real interest rate shows there is still a substantial gap between the peak of household wealth in 2007 and the level today.

In a Public Policy Brief posted by the FRB-Boston, Rand Ghayad, a visiting fellow at the bank, questions whether long-term unemployment insurance worsens unemployment. In theory, the program creates a strong disincentive for unemployed workers to seek and take a job. The paper is titled, “A Decomposition of Shifts of the Beveridge Curve.” This curve shows an inverse relationship between job openings as a percentage of the labor force and the unemployment rate.

The curve has shifted to the right since 2009 with more job openings for a given level of unemployment. One explanation for this shift is the increased availability of unemployment insurance benefits to the long-term unemployed. So this would suggest that allowing these benefits to expire should move many of the long-term unemployed back to work (or out of the labor force). That may be only half true, as the author of this paper reports:

Exploration of the evolution of job openings and unemployment using recent data on unemployed persons decomposed by their reason for unemployment, which determines their eligibility to collect benefits, suggests that up to half of the increase in the unemployment rate relative to the fitted Beveridge curve is explained by job leavers, new entrants, and re-entrants—those who are ineligible to collect unemployment benefits. Because unemployed job seekers who do not qualify to receive benefits compete for jobs with unemployed job losers who are eligible to collect UI, an unattractive vacancy that is refused by a job loser is likely be grabbed quickly by a new entrant or unemployed re-entrant who is not subject to any incentive effects. However, the evidence from the decompositions suggests that the increase in the unemployment rate relative to job openings will persist when unemployment benefit programs expire.

The Reserve Bank of Australia (RBA) left its key interest rate at a record low of 2.75% today. That’s down by 2 percentage points since November 2011. Governor Glenn Stevens said in a statement accompanying the decision that “the economy has been growing a bit below trend over the recent period” and “this is expected to continue in the near term as the economy adjusts to lower levels of mining investment.” The statement noted that a slide in the currency may continue:

The Australian dollar has depreciated by around 10 per cent since early April, although it remains at a high level. It is possible that the exchange rate will depreciate further over time, which would help to foster a rebalancing of growth in the economy.

The minutes of the June 4 Monetary Policy Meeting of the Reserve Bank Board stated:

The exchange rate had also depreciated noticeably, though it remained at a high level considering the decline in export prices that had taken place over the past year and a half. It was possible that the exchange rate would depreciate further over time as the terms of trade declined, which would help to foster a rebalancing of growth in the economy.

Australia’s mining sector has been hard hit by the global economic slowdown, especially in China. The minutes noted:

Based on public statements by mining companies and information from the Bank's liaison, it seemed likely that mining investment was near its peak but would probably remain at a high level for the next year or so. However, members observed that there was considerable uncertainty about mining investment beyond that period. In particular, changes in production and exports of energy commodities in other countries were making it more difficult to assess the potential for new projects in the gas sector in Australia. Overall, conditions in the business sector remained somewhat subdued, with survey measures for all industries at, or below, average levels.

Bloomberg observed today that Prime Minister Kevin Rudd, who returned to office last week after a three-year hiatus, has focused on the risks of the slowdown in China. On June 27, a day after ousting Julia Gillard as leader of the ruling Labor party, he told Parliament: “The China resources boom is over. The China trade itself represents such a huge slice of the Australian national economy that we are looking at one huge adjustment for this nation’s standard of living in the future unless we continue to act with appropriate policy responses.”

John C. Williams (FRB-SF) is a non-voting member of the FOMC this year. In a speech today, he said that it is “too early” for the Fed to start moving toward tightening monetary policy. He is concerned that “ongoing fiscal contraction” is slowing the economy, and that inflation may remain below the Fed’s target. He stressed that the Fed’s decision to phase out QE will depend on the new incoming economic data. He repeated the party line that “reducing or even ending our [bond] purchases does not mean the Fed will be tightening monetary policy.” He also noted that regardless of what the Fed decides to do about QE, a “large majority” of FOMC “participants don’t expect the first increase in the federal funds rate to occur until 2015 or later.”

Williams had an interesting insight into the recent decline in inflation: “This partly reflects temporary factors, such as a decline in Medicare reimbursement prices forced by sequestration.”

Fed Governor Jeremy Stein took office on May 30, 2012. So he is relatively new to the Fed. He made his mark this year on February 7 with a speech titled, “Overheating in Credit Markets: Origins, Measurement, and Policy Responses.” In it, he examined various excesses in the credit markets resulting from the Fed’s ultra-easy monetary policy. He warned that the Fed needs to monitor such “episodes of credit market overheating that pose a potential threat to financial stability.”

Stein followed up this speech with two other speeches, on “Regulating Large Financial Institutions” (April 17) and “Liquidity Regulation and Central Banking” (April 19). Today, he was the latest talking Fed head to talk about the FOMC’s latest meeting in a speech titled, "Comments on Monetary Policy.”

A few Fed watchers have speculated that the FOMC’s decision to “deputize” Fed Chairman Ben Bernanke to announce that QE would most likely be phased out by mid-2014 might have been aimed at taking the air out of some of the credit bubbles identified by Stein back in February. Remarkably, he didn’t even hint at this possibility in his latest comments!

Instead, he concluded, “We have attempted in recent weeks to provide more clarity about the nature of our policy reaction function, but I view the fundamentals of our underlying policy stance as broadly unchanged.” Instead of taking credit for convincing his colleagues to take some of the air out of credit bubbles, he said that the recent jump in bond yields was an overreaction to the FOMC latest communications! He added:

I don't in any way mean to say that the large market movements that we have seen in the past couple of weeks are inconsequential or can be dismissed as mere noise. To the contrary, they potentially have much to teach us about the dynamics of financial markets and how these dynamics are influenced by changes in our communications strategy.

In other words, Stein enthusiastically joined the FOMC’s damage-control brigade. He suggested that QE most likely would be tapered at the September meeting, even in the event of an unfavorable data release. If that bad news is confirmed by more bad news in October and December, then “this would suggest that the 7 percent unemployment goal is likely to be further away, and the remainder of the program would be extended accordingly.” Is that clear?

Bill Dudley (FRB-NY) is a voting member of the FOMC. In his prepared remarks at today’s “Regional Press Briefing” in NYC, he gave his spin on last week’s FOMC decisions. He also gave his spin on last Wednesday’s press conference held by Fed Chairman Ben Bernanke, who that day had given his spin on those decisions. Is your head spinning? In case you didn’t hear or understand what the chairman said, Dudley offered a succinct summary:

At its meeting last week, the FOMC decided to continue its accommodative policy stance. It reaffirmed its expectation that the current low range for the federal funds rate target will be appropriate at least as long as the unemployment rate remains above 6.5 percent, so long as inflation and inflation expectations remain well-behaved. It is important to remember that these conditions are thresholds, not triggers. The FOMC also maintained its purchases of $40 billion per month in agency MBS and $45 billion per month in Treasury securities, with a stated goal of promoting a substantial improvement in the labor market outlook in a context of price stability.

In its statement, the FOMC said that it may vary the pace of purchases as economic conditions evolve. As Chairman Bernanke stated in his press conference following the FOMC meeting, if the economic data over the next year turn out to be broadly consistent with the outlooks that the FOMC sees as most likely, which are roughly similar to the outlook I have already laid out, the FOMC anticipates that it would be appropriate to begin to moderate the pace of purchases later this year. Under such a scenario, subsequent reductions might occur in measured steps through the first half of next year, and an end to purchases around mid-2014. Under this scenario, at the time that asset purchases came to an end, the unemployment rate likely would be near 7 percent and the economy’s momentum strengthening, supporting further robust job gains in the future.

Dudley had four more pointers for Fed watchers who weren’t listening to what was said last week:

Here, a few points deserve emphasis. First, the FOMC’s policy depends on the progress we make towards our objectives. This means that the policy—including the pace of asset purchases—depends on the outlook rather than the calendar. The scenario I outlined above is only that—one possible outcome. Economic circumstances could diverge significantly from the FOMC’s expectations. If labor market conditions and the economy’s growth momentum were to be less favorable than in the FOMC’s outlook—and this is what has happened in recent years—I would expect that the asset purchases would continue at a higher pace for longer.

Second, even if this scenario were to occur and the pace of purchases were reduced, it would still be the case that as long as the FOMC continues its asset purchases it is adding monetary policy accommodation, not tightening monetary policy. As the FOMC adds to its stock of securities, this should continue to put downward pressure on longer-term interest rates, making monetary policy more accommodative.

Third, the Federal Reserve is likely to keep most of these assets on its balance sheet for a long time. As Chairman Bernanke noted in his press conference last week, a strong majority of FOMC participants no longer favor selling agency MBS securities during the monetary policy normalization process. This implies a bigger balance sheet for longer, which provides additional accommodation today and continuing support for mortgage markets going forward.

Fourth, even under this scenario, a rise in short-term rates is very likely to be a long way off. Not only will it likely take considerable time to reach the FOMC’s 6.5 percent unemployment rate threshold, but also the FOMC could wait considerably longer before raising short-term rates. The fact that inflation is coming in well below the FOMC’s 2 percent objective is relevant here. Most FOMC participants currently do not expect short-term rates to begin to rise until 2015.

Fed watchers, who concluded last week that the Fed will be increasing the federal funds rate sooner rather than later, weren’t listening to what was said, according to Dudley:

Some commentators have interpreted the recent shift in the market-implied path of short-term interest rates as indicating that market participants now expect the first increases in the federal funds rate target to come much earlier than previously thought. Setting aside whether this is the correct interpretation of recent price moves, let me emphasize that such an expectation would be quite out of sync with both FOMC statements and the expectations of most FOMC participants.

In a speech today, Governor Jerome H. Powell suggested he prefers forward guidance about interest rates over QE:

By stating an intention to hold rates low and linking that intention to the path of the economy, forward guidance affects the path of longer-term rates and allows the market to make adjustments to these rates as economic conditions evolve.

Regarding QE, he was a bit less sure of its effectiveness:

By purchasing and holding large amounts of Treasury securities and MBS, we put additional downward pressure on term premiums and so on long-term rates. Asset purchases are an innovative, unconventional policy. Their likely benefits may be accompanied by costs and risks, the nature and size of which remain uncertain.

He believes that QE1 worked very well to end the financial crisis. He also believes that QE2 averted deflation. What about subsequent asset-purchasing programs? He thinks they have been effective, on balance, though “the evidence across channels is mixed.” His biggest concern about QE is that it may cause asset bubbles and financial instability:

With inflation in check, the most important potential risk, in my view, is that of financial instability. One concern is that our policies might drive excessive risk-taking or create bubbles in financial assets or housing. A related worry is that the eventual process of reducing purchases and normalizing the balance sheet may itself be destabilizing or disruptive to the economy.

Powell briefly mentioned that both equity and home valuations seem fairly valued. However, he shares the concerns of Fed Governor Jeremy Stein about excesses in the credit markets, which have been somewhat reduced by the rise in interest rates since mid-May.

Powell remains concerned about the unemployment problem and stressed that too many people who would like full-time jobs are working part time. He also noted that the number of people who have been unemployed for six months or more remains very high at 4.4 million, or 37% of the unemployed.

Nevertheless, Powell agrees with the FOMC consensus view that the headline unemployment rate should fall to 7% by mid-2014, which “would constitute a substantial improvement from the 8.1 percent unemployment rate that prevailed when the Committee announced the current program of asset purchases.” However, he said that he wants to “emphasize the importance of data over date.” In other words, the outlook for QE will depend on the course of the economy.

Jeffrey Lacker (FRB-NY) is a non-voting member of the FOMC this year. Last September, he dissented from the FOMC’s decision to implement QE3. Today, in an interview with Bloomberg Television, he said he is "fine with us tapering it off right now." He explained, “This asset-purchase tapering is just slowing the rate at which we’re increasing the balance sheet. We’re not anywhere near decreasing the balance sheet yet.”

Lacker said Fed Chairman Ben Bernanke “did an excellent job” in his press conference last week, but he admitted that Fed communications have had a “rocky period over the last couple of months.” He added, “Markets got a little bit ahead of us in terms of what they were expecting. They’ve gotten into better alignment now with the committee’s expectations.”

Apparently, the members of the FOMC all have Bloomberg terminals in their offices and are very sensitive to the sensitivity of the financial markets to everything they have to say about monetary policy. Have the members and the markets developed an unhealthy co-dependency relationship?