Easing of US Monetary Policy: Be Careful To Achieve a Soft Landing

The Federal Reserve, America' central bank, has decided to reduce quantitative easing. How will it make a soft landing from responding to the crisis of COVID-19 to establishing stable growth in normal times? Careful consideration, including the impact on the global economy, is required.

The Fed has decided to reduce its purchases of U.S. Treasury bonds and other assets from $120 billion each month to $105 billion this month. Such purchases will be reduced by $15 billion each month going forward. At the same time, the Fed has taken a cautious position, asserting that it needed to meet even more stringent economic conditions before raising the interest rate from 0% to 0.25%.

Stock prices and foreign exchange rates remained stable even after the decision was made. However, there is a difficult problem lurking in the background: The pace of inflation is stronger than expected.

After the COVID-19 crisis subsided, the U.S. economy saw a sharp recovery in demand, but the supply side, including labor, has been unable to keep up, and prices have risen. The year-on-year rate of change in the consumer price index for September exceeded 5%.

"We understand the difficulties that high inflation poses for individuals and families, particularly those with limited means to absorb higher prices for essentials such as food and transportation," Fed Chair Jerome Powell said at a press conference. At the same time, he asked for understanding, saying that it is within the range of price stability in the long run and that it is now time to focus on maximizing employment.

Prices will settle if supply recovers after a certain time lag, but the Fed chairman also emphasized that there is great uncertainty about the future. Since we have not experienced price increases due to supply constraints for a long time, we need to carefully assess the balance between prices and employment and be flexible in dealing with the situation.

The U.S. economy's recovery is a major positive for the world economy, but the concern is that a scenario in which high U.S. prices lead to an unexpected rise in interest rates and a sharp outflow of funds from emerging and developing countries will occur. The impact could be amplified not only by damage to the economy, but also by turmoil in international financial markets. The U.S. needs to pay close attention to the ripple effects on the world economy.

In turn, the Bank of Japan is expected to maintain its current policy of setting short-term interest rates at minus-0.1% and long-term interest rates at 0% for the time being, while reducing the actual amount of exchange-traded fund purchases. To be sure, the momentum of Japan's economic recovery is still weak, and prices remain at extremely low levels on the whole.

However, through the rise in international market prices and the depreciation of the yen, the import price index for energy, food and other commodities has risen substantially. We need to keep a close watch on whether the unevenness in price movements by product and sector is having an adverse impact on corporate profits and creating a burden for households. In order to ensure a path to recovery, we must not allow ourselves to be too optimistic about the future.