Central bank

Fed eases taper tantrum fears

18 January 2021 • 5 mins read

  • The Federal Reserve has moved to calm fears it will tighten its very dovish monetary policy stance this year to the detriment of risk assets.
  • Chairman Powell said it wasn’t time to start discussing tapering the Fed’s bond buying or consider raising interest rates anytime soon as the US economy was far from the Fed’s goals.
  • Vice Chairman Clarida also observed the Fed wouldn’t consider increasing interest rates until inflation had been at or above the central bank’s 2% target for a whole year.
  • We expect the Fed to stay supportive of risk assets this year by not tapering its bond buying until 2022 and not hiking rates until 2024-2025.

Financial markets have become concerned that greater fiscal stimulus - after the Democrats won the White House and the Senate - and a strong economic rebound induced by vaccines will spur the Federal Reserve to taper its bond buying prematurely in 2021 to the detriment of risk assets.

Source: Bank of Singapore, Bloomberg

Overnight, President-elect Biden said his first pandemic aid package would be USD1.9 trillion - higher than expectations even if the final figure Congress passes is likely to be closer to USD1.0 trillion - while Atlanta Fed President Bostic earlier this week said the central bank may start cutting its pace of quantitative easing (QE) from USD120 billion a month of bond buying this year.

 The prospects of fresh fiscal stimulus and early Fed tapering in 2021 have caused US Treasury yields to jump sharply in January with 10Y yields rising from 0.91% to as high as 1.18% this month.

Source: Bank of Singapore, Bloomberg 

We expect 10Y yields will reach 1.50% over the next one year but we don’t think the Fed will induce a further sharp sell-off in Treasury bonds by cutting its asset purchases suddenly this year. Instead the Fed is acutely aware of the 2013 ‘taper tantrum’ when financial markets reacted adversely to the central bank first announcing it would slow down its third and last round of quantitative easing (QE3) from the 2008 financial crisis. 

As the first chart shows the Fed subsequently reduced the pace of its bond buying only gradually over a full 12 months.

Thus, overnight, Fed Chair Powell said in a Bloomberg interview: ‘We know we need to be very careful in communicating about asset purchases. Now is not the time to be talking about exit. I think that is another lesson of the global financial crisis, is be careful not to exit too early.’

Powell also said the economy is still ‘far from our goals’ on inflation and unemployment.

We expect the Fed will continue to support risk assets this year by not tapering its bond buying until 2022. We also expect the Fed will not start raising its fed funds interest rate from 0.00-0.25% until 2024 or 2025 as inflation remains below its 2% target as the second chart shows. Powell said it was ‘no time soon’ to consider raising interest rates.

 Vice Chair Clarida told Bloomberg separately that ‘we’re not going to lift off until we get 2% inflation for a year.’ 

Thus, even if inflation hits 2% in 2021 as the US recovers, the Fed will only start hiking rates when inflation has exceeded its 2% goal long enough to average 2% for a full year. This is the Fed’s new dovish strategy of average inflation targeting.

Important information
This product may only be offered: (i) in Hong Kong, to qualified Private Banking Customers and Professional Investors (as defined under the Securities and Futures Ordinance); and (ii) in Singapore, to Accredited Investors (as defined under the Securities and Futures Act) and (iii) in the Dubai International Financial Center to Professional Clients (as defined under the Dubai Financial Services Authority rules) only. No other person should act on the contents of this document.This product may involve derivatives. Do NOT invest in it unless you fully understand and are willing to assume the risks associated with it. If you have any doubt, you should seek independent professional financial, tax and/or legal advice as you deem necessary.

Please carefully read and make sure that you understand all Risk Disclosures, Selling Restrictions, and Disclaimers. This document must be read together with the relevant Prospectus & Offering Documents &/or Key Fact Statement.

This document is prepared by Bank of Singapore Limited (Co Reg. No.: 197700866R) (the “Bank”), is for information purposes only, and is not, by itself, intended for anyone other than the recipient. It may contain information proprietary to the Bank which may not be reproduced or redistributed in whole or in part without the Bank’s prior consent. It is not an offer or a solicitation to deal in any of the investment products referred to herein or to enter into any legal relations, nor an advice or by itself a recommendation with respect to such investment products. It does not have regard to the specific investment objectives, investment experience, financial situation and the particular needs of any recipient or customer. Customers should exercise caution in relation to any potential investment. Customers should independently evaluate each investment product and consider the suitability of such investment product, taking into account customer’s own specific investment objectives, investment experience, financial situation and/or particular needs. Customers will need to decide on their own as to whether or not the contents of this document are suitable for them. If a customer is in doubt about the contents of this document and/or the suitability of any investment products mentioned in this document for the customer, the customer should obtain independent financial, legal and/or tax advice from its professional advisers as necessary, before proceeding to make any investments.

The Bank, its Affiliates and their respective employees are not in the business of providing, and do not provide, tax, accounting or legal advice to any clients. The material contained herein is prepared for informational purposes and is not intended or written to be used, and cannot be used or relied upon for tax, accounting or legal advice. Any such client is responsible for consulting his/her own independent advisor as to the tax, accounting and legal consequences associated with his/her investments/transactions based on the client’s particular circumstances.

This document and other related documents have not been reviewed by, registered or lodged as a prospectus, information memorandum or profile statement with the Monetary Authority of Singapore nor any regulator in Hong Kong or elsewhere.

This document may not be published, circulated, reproduced or distributed in whole or in part to any other person without the Bank’s prior written consent. This document is not intended for distribution to, publication or use by any person in any jurisdiction outside Singapore, Hong Kong, or such other jurisdiction as the Bank may determine in its absolute discretion, where such distribution, publication or use would be contrary to applicable law or would subject the Bank and its related corporations, connected persons, associated persons and/or affiliates (collectively, “Affiliates”) to any registration, licensing or other requirements within such jurisdiction.

Mansoor Mohi-uddin
Chief Economist
Was this page useful?