Fed should have started unwinding their balance sheet long ago: Hugh Albert Johnson, Hugh Johnson Advisors

Talking to ET Now, Hugh Albert Johnson, Hugh Johnson Advisors, says they held on to the $4.5-trillion in securities for a very, very long time.

Edited excerpts:


What is your overall reaction to the kind of commentary that Fed Chairman Janet Yellen came out with as well as the whole plan for unwinding the $4.5-trillion balance sheet?

I do not think there was anything surprising about the decisions or comments made by Janet Yellen. Generally speaking, most of us had been expecting that there might be another rate increase this year and it looks it is headed towards a December increase and no certain forecast in three increases in 2018.

So, I do not think there was any particular surprise or assessment of the US economy. It was pretty much in line with expectations. There is the recognition of the fact that storms are going to affect the US economy but they will be temporary and that we get through that without any problem. The big issue of course the lack of inflation. Inflation has been very subdued and Yellen handled that pretty much in line with expectations. Inflation is below the 2% target. Overall, there was nothing that was surprising or unexpected and that is why you had a positive but a very subdued reaction or response in both the equity markets, the fixed income markets as also the currency markets, but not a significant reaction.

However, the Fed for the first time did not provide a formal timetable for how the operations will take place as far as the unwinding of the balance sheet is concerned. They will be instead reinvesting all the proceeds of the bond portfolio and allow a $10 billion to roll off at first. Do you agree with this strategy, how is it going to pan out overall?

It is not written in stone. In other words, it is going to be the case that they are going to be eliminating or reducing their holdings or US treasuries and mortgage backed securities. They are going to do it in a fairly subdued or benign way. They are going to watch the response of the financial markets to changes that they make when they reduce their holdings of treasuries. It will be fairly subdued at first and again they will be monitoring or watching the response of the financial markets.

So, they are going to start reducing at a very low or slow pace and watch the response of the financial markets to that and if it starts to become disruptive, if there are significant declines in treasuries, mortgage backs, significant increases in interest rates they will certainly slowdown the pace at which they are reducing their holdings.

It is going to be very measured and responsive to what is going on in the financial markets. That is the financial markets’ overall reaction to their changes in their portfolio.

What about the timing of the balance sheet unwinding because 10 years down the line they are still carrying forward a policy that existed and was designed for the global financial crisis, for the banking crisis? Do you think that perhaps this is a little too late when it comes to the unwinding and that perhaps this was not the most appropriate policy or measure to carry forward at a time when the economy has stabilised?

Personally, I would have liked to see them start the unwinding of their positions in treasuries and mortgages much before now. In other words, I do think that they held on to the $4.5 trillion in securities for a very, very long time. They have been overly careful. I wish they had gone a little bit faster. The same thing is true about other central banks.

I believe when we start to see sort of a synchronised global expansion and they start getting on board, you will see them start unwinding their positions. Overall, you could obviously criticise this, the magnitude of the buying that they had to do during the crisis and there is just absolutely no formula for it.

When you take a look at history, history will tell you as most economists do that really there is just no formula as to how much you have to do in order to stabilise the economy during a crisis but there is no question in my mind that they did an awful lot. I certainly would have liked to see them start to unwind their position far before now. This is going to take a lot of work, a lot of time and quite frankly there is no perfect formula. So yes, it is easy for me to criticise but believe me there is no formula.

Just a couple of more meetings left for Janet Yellen. What do you think her trajectory and her path is going to be when it comes to the interest rate hikes for the balance of her Fed meetings?

She has always been a dove and she has always been very careful about interest rate increase. She has often talked to us about it being data dependent and every time it comes up for consideration she does find certainly data, particularly with her extensive knowledge of the employment data, finds a reason why they should not raise interest rates.

Quite frankly I think that the Federal Reserve is probably going to be without Janet Yellen at the helm. Again, we do not know if she is going to be reappointed or not but without assuming she is not reappointed, you are likely to see that Federal Reserve will probably step up the timing of its increase in interest rates, though not a lot. Remember I talked about three times in 2018, one more time in 2017, three times in 2018, three times in 2019 but we might see a step up in the pace at which the Federal Reserve reduces the securities on its balance sheet and increased interest rates but not significantly.

Remember, she has been a very moderate influence on Federal Reserve conduct or Federal Reserve monetary policy.