What is the Fed waiting for?

After its much-anticipated meeting this month, the Federal Open Market Committee announced it would not raise interest rates or make any changes in its conduct of monetary policy. By a 9-1 vote, the committee decided that weakness abroad threatened domestic growth and could increase the downward pressure on inflation. It also seemed to be spooked by the recent financial market turmoil.

Most observers have been in agreement that a rate increase will come this year. However, the Federal Reserve’s statement was exceedingly dovish, to the point that many are wondering aloud whether the Fed is looking to 2016 instead. During her press conference, Fed Chair Janet Yellen noted that 13 out of 17 committee members still predict a rate increase by the end of the year. But will they hold to that if wage growth or price growth remains stagnant?

Further, what about the global economy has to change for the Fed to feel comfortable? There are valid arguments that trouble in emerging markets abroad could lead to more strengthening of the dollar – and more downward pressure on inflation. Given that the Fed has a goal of 2 percent inflation, such downward pressure would be a concern. However, the Fed has not traditionally articulated its views on international developments in its policy statements. What factors will the Fed be considering as it looks beyond our borders, and how will it communicate that outlook clearly to the public? The decline in stocks following the announcement seemed to reflect the added level of uncertainty that the Fed has now introduced about the outlook for the global economy, its impact domestically and what exactly it means for monetary policy going forward.

Communication overall is a major concern for the Fed. The Fed clearly is nervous about surprising financial markets with a policy move that could lead to further instability. It wants markets to be prepared for liftoff, but it doesn’t want to send signals that are so concrete as to lock itself into a particular position.

The Fed’s constant refrain that policy is “data-dependent” is intended to give the Fed room to delay policy decisions until as late as possible while preventing markets from assuming what it will do in the longer term. The problem is that the Fed can’t agree on what data it is depending on. Is the unemployment rate an adequate measure for slack in the labor market? How important is wage growth, and will it precipitate inflation? And what do we do with China, where no one seems to agree on how valid the data is, much less what it means here in the U.S.? In its efforts to avoid the fixed expectations that accompanied its regimented normalization efforts from 2004 to 2006, the Fed has overshot the mark and left markets confused and uncertain.

The Fed was not the only institution to be seriously spooked by the market turbulence we saw in recent weeks – so this recent announcement may have come as a relief to some. For now, while Yellen insists a rate increase could still occur after the committee’s October meeting, my focus has shifted to December 16 – the Fed’s last chance for liftoff this year.