What to Look for from the Fed in 2012

Increased transparency is definitely on the central bank's docket.


The Fed is treading water for now, but how long will it last?

In a statement about December's meeting of the Federal Open Market Committee, officials decided to maintain existing policies, including keeping the federal funds rate at near-zero levels, where it has been for three years. Boring as that news is, 2012 could be a year of big changes at the Fed. Here are three possibilities for how the Fed's policies and place in the national dialogue might change over the next year.

[See what happens if we end the Fed.]

Scaring Markets Less

December's relatively dull FOMC statement sent Dow Jones Industrials plunging more than 100 points, in part because of disappointment at the lack of information on an eagerly-awaited new communication strategy. Broadly speaking, stock markets have been skittish recently, with the slightest new information often inspiring massive intraday gains or drops. Those jumps are naturally more likely to happen after Fed meetings, and exacerbating the trend might be the Fed's new aim for greater transparency. In 2011, the central bank started instituting press conferences after some of its meetings. According to John Cannally, investment strategist and economist at LPL Financial, markets are still adjusting to the new schedule, which may make for bigger news out of the press conferences and small—perhaps disappointingly so—policy movement from shorter meetings without press conferences. "The market's going to have to get used to that," he says.

Getting More Talkative

The December FOMC statement may not make for an exciting read. But future statements may prove just a little more intriguing.

The committee's September 2011 minutes note that most members see "advantages in being more transparent about the conditionality in the Committee's forward guidance."

In plain English, that means the Fed might start providing more "if...then" statements surrounding its interest rate policy. For example, the committee might indicate that, if nominal GDP grows to a certain rate, the federal funds rate will then move higher.

This could help businesses make smarter decisions and perhaps inspire more borrowing and lending. According to Cannally, a business owner might look at such a statement and say, "I can afford to take a two-year loan out at this rate and invest it in my business, and therefore I know the rate of return I need to make that project worth doing."

"Markets and businesses like certainty, so they want to know for certain how long rates are going to stay low," says Cannally.

[See the many faces of Ben Bernanke.]

Fed-watchers eagerly await the announcement of the new strategy, and the lack of information thus far is a disappointment to some. "The Fed is trying to put together a better method of communicating but they couldn't communicate effectively on when they will have that new communication policy. Confused? Me too. But that's the Fed," wrote Joel Naroff, president and chief economist of consulting firm Naroff Economic Advisors, in a commentary on the December minutes.

More Easing?

The $64,000 question for the Fed is, as it has been for months, whether it will do another round of quantitative easing. According to Cannally, current economic conditions could warrant further easing given unemployment well above and growth well below healthy levels. But the political problems of QE3, even for a committee of unelected officials, remain considerable.

"From a political standpoint, I think the hurdle remains pretty high. [The Fed has] taken shots from members of Congress, from presidential candidates, even from inside their own walls," he says "And I think [Fed Chairman] Ben Bernanke is conflicted on it."

Twitter: @titonka