Fed Needs Clear Communication When Normalization Nears, IMF Says

The Federal Reserve will need to provide “clear and well-telegraphed communication” on the pace of asset purchases when policy normalization draws closer to avoid financial-market volatility, according to an IMF blog post.

“A tightening of global financial conditions remains a risk,” International Monetary Fund officials led by Tobias Adrian said in the post on Thursday, noting that benchmark 10-year Treasury yields have gained about 70 basis points this year.

Their concern is that while a gradual increase in longer-term U.S. rates is healthy -- reflecting the nation’s expected strong recovery -- a sharp change could be harmful.

“Given the asynchronous and multispeed nature of the global recovery, fast and sudden increases in U.S. rates could lead to significant spillovers across the world, tightening financial conditions for emerging markets and throwing a wrench in their recovery process,” they said.

The officials noted that the increase in five-year yields has been driven by a steep rise in short-term breakeven inflation, which has gone hand in hand with a rise in commodity prices as the global recovery gains traction and the Fed sticks with accommodative policy.

By contrast, the increase in the so-called 5-year-5-year forward, which covers the second half of the 10-year maturity, has been fueled by gains in real yields with with longer-term breakeven inflation appearing well-anchored.

Putting all this together, the authors see the “greater uncertainty about the economic and fiscal outlook, as well as the outlook for asset purchases by the central bank.”

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