Fed exit strategy: five questions, some tentative answers

December 15, 2009 8:46pm
by Krishna Guha

I’ve just written a piece for tomorrow’s FT looking at five key exit strategy questions facing the Fed.
Just to be ultra clear to the best of my knowledge the Fed has only just begun strategizing on some of these issues and has not yet decided on a concrete plan. This underscores the fact that the Fed does not expect to be raising rates soon.
Here are the five questions:
Should the Fed focus on tightening short term rates as normal or tightening long term rates through asset sales?
Assuming the Fed focuses on short term rates, does it need to reduce the more than $1,000bn excess reserves in the banking system substantially, early in the process and ideally before raising rates?
When it starts raising, should it communicate its policy stance in terms of an interest rate on bank reserves rather than a target for the fed funds rate as in the past?
If it starts tightening without draining the excess reserves, will it have to move more aggressively than it would otherwise have done?
What is the end destination in terms of the monetary policy regime the Fed wants when the exit is complete?
I write in the piece that the tentative answers from the Fed leadership appear to be respectively: yes, no, maybe, probably and something different from the pre-crisis regime.