The Federal Reserve's monetary policy committee gathered for a one-day meeting on Tuesday to consider, and perhaps adopt, additional measures to prop up a softening U.S. economic recovery.
Data has been decidedly weak since the central bank's last meeting in late June. Consumer spending is petering out and manufacturing appears to be losing steam. The unemployment rate, meanwhile, is stuck at 9.5 percent, with companies still reluctant to hire.
With U.S. interest rates already effectively at zero, the central bank has run out of easy policy options. Top Fed officials argue, however, they can do more to fight renewed economic weakness, including reinvesting proceeds from maturing mortgage bonds back into that market.
The Fed could decide to announce such a shift Tuesday, although it may choose to simply nod to mounting risks and lay the groundwork for a possible eventual return to easing in its post-meeting statement, which is expected around 2:15 p.m. EDT. The meeting began at 8 a.m. EDT, as scheduled.
We'll be looking for some acknowledgment about how growth appears to have slowed, said Jay Bryson, global economist at Wells Fargo Securities in Charlotte, North Carolina.
Reinvesting proceeds as mortgage bonds mature could prevent a passive tightening of monetary policy, although the impact on overall financial conditions would be minimal.
Other Fed options include lowering the rate it pays banks to park their excess reserves at the central bank, currently at an already low 0.25 percent, or somehow redoubling its already-stated commitment to keep interest rates low for an extended period.
The idea is to prevent a deflationary cycle of falling prices and depressed consumption from taking hold.
That fear was reflected in the findings of a San Francisco Fed study released on Monday. It found a significant chance the economy would slip back into recession in the next two years.
They have the ammo. The question is how effective it is, Bryson said.
A monthly Blue Chip poll of economists released on Monday showed that 55 percent believe the Fed will take more steps to support growth in the next 12 months.
Markets around the world treaded anxiously ahead of the Fed's decision, with global stocks falling, Treasury bond prices moving higher, and U.S. equity futures pointing to a softer open.
The Bank of Japan, which also met Tuesday, decided to hold off on any further easing measures despite a rise in the yen, which has rallied near record highs on expectations of further measures by the Fed.
WORDS OR ACTION?
Ultimately, the most powerful remaining weapon for the U.S. central bank would be a return to asset purchases, which it undertook in earnest to combat the financial crisis and severe recession after it had pushed overnight rates close to zero in December 2008.
However, support for such a step does not yet seem in place.
The Fed's already dominant presence in the mortgage-backed securities market suggests further asset purchases may not prove so effective, although it could spark some refinancing activity by narrowing the spread between mortgage rates and yields on government debt.
Instead, if the Fed does fear the economy is at risk of stalling, it could announce another round of purchases of longer-term Treasury securities. In earlier purchases, the Fed bought some $300 billion in Treasuries and more than $1.1 trillion in mortgage bonds, more than doubling its balance sheet in the process to about $2.3 trillion.
Analysts at Goldman Sachs say the Fed could eventually decide large-scale asset purchases are needed.
Later measures would include a stronger commitment to keep rates low and/or asset purchases of at least $1 trillion, most likely also in Treasuries, Goldman Sachs economist Jan Hatzius said in a research note.
Another large bond-buying program could open the central bank up to accusations it is monetizing the debt, something Fed officials would be loathe to do.
But if the choice was between this impression and a new recession, the Fed would most likely act.
Separately, a report on Tuesday showed hourly compensation fell at an annual rate of 0.7 percent in the second quarter, holding labor costs to a weaker-than-expected 0.2 percent rise despite a sharp drop in productivity.
The data reinforced the low-inflation environment that gives the Fed some breathing room to make policy even more accommodative.