FOMC Minutes

Page 1

Minutes of the Federal Open Market Committee

August 10, 2010

A joint meeting of the Federal Open Market Committee and the Board of Governors of the Federal Reserve

System was held in the offices of the Board of Governors in Washington, D.C., on Tuesday, August 10,

2010, at 8:00 a.m.

PRESENT:

Ben Bernanke, Chairman

William C. Dudley, Vice Chairman

James Bullard

Elizabeth Duke

Thomas M. Hoenig

Donald L. Kohn

Sandra Pianalto

Eric Rosengren

Daniel K. Tarullo

Kevin Warsh

Patrick M. Parkinson, Director, Division of Bank

Supervision and Regulation, Board of Governors

Robert deV. Frierson, Deputy Secretary, Office of

the Secretary, Board of Governors

Charles S. Struckmeyer, Deputy Staff Director,

Office of the Staff Director for Management,

Board of Governors

William Nelson, Deputy Director, Division of

Monetary Affairs, Board of Governors

Linda Robertson, Assistant to the Board, Office of

Board Members, Board of Governors

Christine Cumming, Charles L. Evans, Richard W.

Fisher, Narayana Kocherlakota, and Charles I.

Plosser, Alternate Members of the Federal

Open Market Committee

Seth B. Carpenter, Senior Associate Director, Division of Monetary Affairs, Board of Governors;

David Reifschneider and William Wascher,

Senior Associate Directors, Division of Research and Statistics, Board of Governors

Jeffrey M. Lacker, Dennis P. Lockhart, and Janet L.

Yellen, Presidents of the Federal Reserve

Banks of Richmond, Atlanta, and San Francisco, respectively

Stephen A. Meyer, Senior Adviser, Division of

Monetary Affairs, Board of Governors; Stephen D. Oliner, Senior Adviser, Division of

Research and Statistics, Board of Governors

William B. English, Secretary and Economist

Matthew M. Luecke, Assistant Secretary

David W. Skidmore, Assistant Secretary

Michelle A. Smith, Assistant Secretary

Thomas C. Baxter, Deputy General Counsel

Richard M. Ashton, Assistant General Counsel

Nathan Sheets, Economist

Brian J. Gross, Special Assistant to the Board, Office of Board Members, Board of Governors

James A. Clouse, Thomas A. Connors, Steven B.

Kamin, Lawrence Slifman, Mark S. Sniderman,

and David W. Wilcox, Associate Economists

Brian Sack, Manager, System Open Market Account

Jennifer J. Johnson, Secretary of the Board, Office

of the Secretary, Board of Governors

Eric M. Engen, Assistant Director, Division of Research and Statistics, Board of Governors

David H. Small, Project Manager, Division of

Monetary Affairs, Board of Governors

John C. Driscoll and Jennifer E. Roush, Senior

Economists, Division of Monetary Affairs,

Board of Governors

Penelope A. Beattie, Assistant to the Secretary, Office of the Secretary, Board of Governors

Kimberley E. Braun, Records Project Manager,

Division of Monetary Affairs, Board of Governors

Page 2

Federal Open Market Committee

Randall A. Williams, Records Management Analyst,

Division of Monetary Affairs, Board of Governors

David Sapenero, First Vice President, Federal Reserve Bank of St. Louis

Loretta J. Mester and Robert H. Rasche, Executive

Vice Presidents, Federal Reserve Banks of

Philadelphia and St. Louis, respectively

David Altig, Ron Feldman, Craig S. Hakkio, Glenn

D. Rudebusch, Daniel G. Sullivan, and Geoff

Tootell, Senior Vice Presidents, Federal Reserve Banks of Atlanta, Minneapolis, Kansas

City, San Francisco, Chicago, and Boston, respectively

Linda Goldberg, Vice President, Federal Reserve

Bank of New York

Annmarie S. Rowe-Straker, Assistant Vice President, Federal Reserve Bank of New York

Pia Orrenius, Research Officer, Federal Reserve

Bank of Dallas

Robert L. Hetzel, Senior Economist, Federal Reserve Bank of Richmond

Developments in Financial Markets and the Federal Reserve’s Balance Sheet

The Manager of the System Open Market Account

(SOMA) reported on developments in domestic and

foreign financial markets during the period since the

Committee met on June 22–23, 2010. He also reported

on System open market operations during the intermeeting period, noting that the Desk at the Federal

Reserve Bank of New York had engaged in coupon

swap transactions in agency mortgage-backed securities

(MBS) to substantially reduce the number of the

Committee’s earlier agency MBS purchases that remained to be settled. In addition, the Manager briefed

the Committee on the System’s progress in developing

tools for possible future reserve draining operations.

The Federal Reserve successfully conducted two more

small-value auctions of term deposits to confirm operational readiness for such auctions at the Federal Reserve and at the depository institutions that chose to

participate. The Manager noted that the staff was de-

_

veloping plans for additional small-value tests of the

Term Deposit Facility. In early August, the Federal

Reserve successfully executed a few small-value term

reverse repurchase operations, including the first the

Federal Reserve conducted using agency MBS as collateral, to ensure operational readiness for such transactions at the Federal Reserve, the clearing banks, and the

primary dealers. There were no open market operations in foreign currencies for the System’s account

over the intermeeting period. By unanimous vote, the

Committee ratified the Desk’s transactions over the

intermeeting period.

The Manager also noted the staff’s projection that, if

mortgage rates were to remain near their levels at the

time of the meeting, repayments of principal on the

agency MBS held in the SOMA likely would reduce the

face value of those holdings by roughly $340 billion

from August 2010 through the end of 2011. The level

of repayments would be expected to increase further if

mortgage rates were to decline from those levels. In

addition, about $55 billion of agency debt held in the

SOMA portfolio would mature over the same time

frame.

Staff Review of the Economic Situation

The information reviewed at the August 10 meeting

indicated that the pace of the economic recovery

slowed in recent months and that inflation remained

subdued. In addition, revised data for 2007 through

2009 from the Bureau of Economic Analysis showed

that the recent recession was deeper than previously

thought, and, as a result, the level of real gross domestic product (GDP) at the end of 2009 was noticeably

lower than estimated earlier. Private employment increased slowly in June and July, and industrial production was little changed in June after a large increase in

May. Consumer spending continued to rise at a modest rate in June, and business outlays for equipment and

software moved up further. However, housing activity

dropped back, and nonresidential construction remained weak. Additionally, the trade deficit widened

sharply in May. A further decline in energy prices and

unchanged prices for core goods and services led to a

fall in headline consumer prices in June.

Private nonfarm employment expanded slowly in recent months. The average monthly gain in private payroll employment during the three months ending in

July was small, considerably less than the average increase over the preceding three months. However,

average weekly hours of all employees continued to

recover. The net addition of jobs in manufacturing and

Minutes of the Meeting of August 10, 2010

related industries, and in nonbusiness services such as

health and education, continued to contribute importantly to the net increase in private employment. Employment in construction and financial activities fell

further. The unemployment rate moved down in June

from its level earlier in the year, and was unchanged in

July, as declining civilian employment was accompanied

by decreases in labor force participation. Initial claims

for unemployment insurance remained at an elevated

level over the intermeeting period.

Industrial production was little changed in June after

three months of strong increases. The output of utilities was boosted by unseasonably hot weather while

manufacturing production declined. The drop in manufacturing output included a reduction in motor vehicle

assemblies, but they were scheduled to increase noticeably in July. The June decrease in factory output also

reflected weaker production in industries producing

non-automotive consumer goods and construction and

business supplies. The output of high-technology

items and other business equipment continued to rise.

Capacity utilization in manufacturing in June stood well

above its mid-2009 low, but it was still substantially

short of its longer-run average.

Revised data indicated that consumer spending fell

more sharply in 2008 and in the first half of 2009, and

subsequently recovered more slowly, than previously

estimated. Real personal consumption expenditures

(PCE) rose gradually during the second quarter. Sales

of light motor vehicles continued to move up, on balance, with the level of sales in July slightly higher than

the second-quarter average. Real disposable personal

income increased at a noticeably stronger pace than

spending in recent months, and the personal saving rate

moved up further from the upwardly revised level reported in the revisions to the national income and

product accounts.

Indicators of household net

worth—such as stock prices and house prices—were

little changed, on net, over the intermeeting period.

Consumer confidence fell back in July, with households

expressing greater concern about their personal finances and the outlook for the recovery.

The housing market, which had been supported earlier

in the year by activity associated with the homebuyer

tax credits, was quite soft for a second consecutive

month in June. Sales of new single-family homes rebounded some in June after their sharp drop in May,

but they remained at a depressed level. Sales of existing

homes fell for a second month in June, and the index

of pending home sales suggested another decline in

Page 3

July. Starts of new single-family houses, which had

dropped steeply in May, edged down in June to the

lowest level since the spring of 2009. The low number

of new permits issued in June appeared to signal that

little improvement in new homebuilding was likely in

July. House prices were largely stable, on balance, in

recent months. The interest rate on 30-year fixed-rate

conforming mortgages fell further during July, reaching

a record low for the 39-year history of the series.

Real business spending on equipment and software

rose strongly again in the second quarter, with increases

widespread across the categories of spending. New

orders for nondefense capital goods excluding aircraft

remained on a solid uptrend, although their threemonth change for the period ending in June was less

rapid than earlier in the year. Survey indicators of

business conditions and sentiment softened in July but

remained consistent with further gains in production

and capital spending in the near term. Business investment in nonresidential structures turned up in the

second quarter, with spending boosted by the rise in

outlays for drilling and mining structures. The decline

in spending for other types of nonresidential buildings

appeared to be slowing, and there were a few signs that

financial conditions in commercial real estate markets,

though still difficult, were stabilizing. In the second

quarter, businesses appeared to add to inventories at a

faster rate. However, ratios of inventories to sales for

most industries did not point to any sizable overhangs.

Inflation remained subdued in recent months. Headline consumer prices declined in May and June because

of sizable drops in consumer energy prices. At the

same time, the core PCE price index moved up only

slightly, and the year-over-year increase in the index in

June was lower than earlier in the year. In recent

months, prices of core consumer goods continued to

decline while prices of non-energy services rose moderately. At earlier stages of production, producer prices

of core intermediate materials fell back in June; in contrast, most indexes of spot commodity prices moved

up during July. Inflation compensation based on

Treasury inflation-protected securities moved down

further over the intermeeting period, partly in response

to softer-than-expected data on economic activity, but

survey measures of short- and long-term inflation expectations were largely stable.

Nominal hourly labor compensation—as measured by

compensation per hour in the nonfarm business sector

and the employment cost index—rose modestly during

the year ending in the second quarter. Average hourly

Page 4

Federal Open Market Committee

earnings of all employees rose slowly over the

12 months ending in July. Output per hour in the nonfarm business sector declined in the second quarter

after rising rapidly in the preceding three quarters. On

net, unit labor costs remained well below their level one

year earlier.

The U.S. international trade deficit widened sharply in

May, as a significant increase in exports was more than

offset by a surge in imports. The corresponding decline in real net exports made a significant negative

contribution to U.S. GDP growth in the second quarter. The increase in exports was broadly based, with

particular strength in exports of capital equipment.

Imports of capital goods also were strong, as were imports of consumer goods and automotive products. In

contrast, imports of petroleum products fell in May,

held back by both lower prices and reduced volumes.

Available data suggested that aggregate GDP growth in

foreign economies remained strong in the second quarter. Recent indicators of economic activity for the euro

area showed little imprint of the fiscal stresses that

emerged in the spring. Industrial production continued

to grow in May, with particularly solid gains in Germany and France, and purchasing managers indexes and

economic sentiment turned up in July. In Japan, exports continued to support economic growth, even as

indicators of household spending remained weak. Machinery orders declined in May, however, and industrial

production moved down in June, suggesting some deceleration in economic activity. In the emerging market

economies (EMEs), incoming data generally pointed to

a moderation of economic growth, albeit to a still-solid

pace, with a notable slowing in China in the second

quarter. In other EMEs, purchasing managers indexes

generally still pointed to expansions in manufacturing

activity, though industrial production in many countries

began to decelerate. In contrast, Mexican indicators

suggested that economic activity rebounded in the

second quarter after contracting in the first quarter.

Headline inflation rates generally declined abroad,

reflecting prior declines in oil and other commodity

prices.

Staff Review of the Financial Situation

The decision taken by the Federal Open Market Committee (FOMC) at its June meeting to maintain the 0 to

¼ percent target range for the federal funds rate was

about in line with investor expectations and elicited

little market reaction; the same was true of the wording

of the accompanying statement. Over the intermeeting

period, investors appeared to mark down the path for

_

monetary policy in response to weaker-than-expected

economic data releases and Federal Reserve communications that were read as suggesting that policymakers’

concerns about the economic outlook had increased.

Reflecting the same factors, yields on nominal Treasury

coupon securities fell noticeably on net. Treasury auctions were generally well received, with bid-to-cover

ratios mostly exceeding historical averages. Yields on

investment- and speculative-grade corporate bonds

decreased, and their spreads relative to yields on comparable-maturity Treasury securities declined moderately. Secondary-market bid prices on syndicated leveraged loans rose a bit, while bid-asked spreads in that

market edged down.

Conditions in short-term funding markets improved

somewhat over the intermeeting period. Spreads of

term London interbank offered rates (Libor) over rates

on overnight index swaps moved down at most horizons, and liquidity in term funding markets reportedly

increased. Spreads on unsecured commercial paper

were little changed. In secured funding markets,

spreads on asset-backed commercial paper moved

down, while rates and haircuts on collateral for repurchase agreements involving Treasury and agency collateral held steady.

Broad U.S. equity price indexes increased slightly, on

net, as generally positive corporate earnings news and

an easing of investors’ worries about the potential effects of fiscal strains in Europe were partly offset by

concerns about the strength of the economic recovery.

Most firms in the S&P 500 reported second-quarter

earnings that exceeded analysts’ forecasts. Optionimplied volatility on the S&P 500 index declined but

remained somewhat elevated by historical standards.

The spread between the staff’s estimate of the expected

real return on equities over the next 10 years and an

estimate of the expected real return on a 10-year Treasury note—a rough measure of the equity risk premium—was little changed at an elevated level. Financial stock prices moved about in line with broader indexes, and credit default swap spreads for large financial institutions narrowed moderately.

Gross bond issuance by U.S. investment-grade nonfinancial corporations rebounded in July from relatively

subdued levels in May and June. Nonfinancial commercial paper outstanding also increased. Issuance of

syndicated leveraged loans rose in the second quarter,

but terms on such deals reportedly tightened somewhat. Measures of the credit quality of nonfinancial

Minutes of the Meeting of August 10, 2010

firms remained solid. Gross equity issuance was moderate in June and July.

Prices of commercial real estate appeared to have increased in the second quarter, though the number of

transactions was small. Nonetheless, commercial real

estate markets remained under pressure. Delinquency

rates for securitized commercial mortgages continued

to rise in June, and commercial mortgage debt was estimated to have contracted by a sizable amount again in

the second quarter. However, investor demand for

high-quality commercial mortgage-backed securities

(CMBS) reportedly was robust, although issuance of

CMBS remained muted.

Consumer credit contracted again in the second quarter, as revolving credit continued to decline and nonrevolving credit edged down. Issuance of consumer asset-backed securities slowed a bit in July, reflecting, in

part, typical seasonal patterns. Consumer credit quality

continued to show improvement. Delinquency and

charge-off rates for most types of consumer loans

moved down in recent months, although these rates

remained elevated. Spreads of credit card interest rates

over those on Treasury securities stayed elevated in

May, while interest rate spreads on auto loans remained

near their average level over the past decade.

Commercial banks’ core loans—the sum of commercial

and industrial (C&I), real estate, and consumer loans—

continued to contract in June and July. However, the

recent runoff in core loans was appreciably smaller

than the declines posted earlier in the year, reflecting a

more modest contraction in C&I loans. The July Senior Loan Officer Opinion Survey on Bank Lending

Practices showed, for the second straight quarter, that a

small net fraction of respondents had eased standards

for C&I loans over the previous three months. Commercial real estate loans continued to decline steeply in

June and July, and residential real estate loans also decreased. Consumer loans at commercial banks were

about flat, on balance, as reductions in credit card loans

about offset an increase in nonrevolving consumer

loans. Securities holdings by banks increased substantially in recent weeks.

M2 was little changed in July after expanding slightly in

the second quarter. Its subdued growth in recent

months likely reflected a continued unwinding of earlier safe-haven flows as well as the very low rates of return on some components of M2, particularly small

time deposits and retail money market mutual funds.

Page 5

In foreign exchange markets, the value of the dollar

declined on balance over the intermeeting period, likely

reflecting some reversal of flight-to-safety flows, betterthan-expected European economic data, and the softer

economic outlook for the United States. The release of

the results of the European Union stress-test exercise,

including data on European banks’ exposures to sovereign debt, appeared to ease concerns about the potential for severe financial dislocations in Europe. Investors also seemed to take comfort from several oversubscribed auctions of government debt by Spain, Portugal, Ireland, and Greece. Accordingly, risk spreads on

these governments’ bonds, though elevated, generally

declined, and European banks’ access to dollar funding

improved somewhat. The lack of any disruption to

market functioning following the expiration, on July 1,

of the European Central Bank’s first one-year refinancing operation also supported investor sentiment. Market indicators of expectations for future overnight rates

in the euro area shifted up during the period. No

changes were made to policy interest rates in the euro

area, the United Kingdom, or Japan. The Bank of

Canada tightened policy a step further during the period, raising its target for the overnight rate 25 basis

points to ¾ percent.

Notwithstanding the improved investor sentiment toward Europe, data releases pointing to lower-thanexpected growth in economic activity in the United

States and China may have weighed on global sovereign

bond yields, which declined on net in Canada, Germany, the United Kingdom, and Japan. Equity prices,

while up in Europe over the intermeeting period, were

little changed in Canada and down in Japan. By contrast, share prices rose in emerging markets and flows

into emerging market equity funds continued to be

strong. The central banks of a number of EMEs, including Brazil, Chile, India, Malaysia, South Korea,

Taiwan, and Thailand, increased policy interest rates.

Staff Economic Outlook

In the economic forecast prepared for the August

FOMC meeting, the staff lowered its projection for the

increase in real economic activity during the second

half of 2010 but continued to anticipate a moderate

strengthening of the expansion in 2011. The softer

tone of incoming economic data suggested that the

pace of the expansion would be slower over the near

term than previously projected. Financial conditions,

however, became somewhat more supportive of economic growth. Interest rates on Treasury securities,

corporate bonds, and mortgages moved down further

over the intermeeting period; the dollar reversed its

Page 6

Federal Open Market Committee

April to June appreciation; and equity prices edged

higher. Over the medium term, the recovery in economic activity was expected to receive support from

accommodative monetary policy, further improvement

in financial conditions, and greater household and

business confidence. Over the forecast period, the increase in real GDP was projected to be sufficient to

slowly reduce economic slack, although resource slack

was still anticipated to remain quite elevated at the end

of 2011.

Overall inflation was projected to remain subdued over

the next year and a half. The staff’s forecasts for headline and core inflation in 2010 were revised up slightly

in response to the higher prices of oil and other commodities and the depreciation of the dollar. Even so,

the wide margin of economic slack was projected to

contribute to some slowing in core inflation in 2011,

though the extent of that slowing would be tempered

by stable inflation expectations.

Participants’ Views on Current Conditions and the

Economic Outlook

In their discussion of the economic situation and outlook, meeting participants generally characterized the

economic information received during the intermeeting

period as indicating a slowing in the pace of recovery in

output and employment in recent months. Real GDP

growth was noticeably weaker in the second quarter of

2010 than most had anticipated, and monthly data suggested that the pace of recovery remained sluggish

going into the third quarter. Private payrolls and consumer spending had risen less than expected. Business

spending on equipment and software had increased

strongly but reportedly was concentrated in replacements and upgrades that had been postponed during

the economic downturn. Investment in nonresidential

structures continued to be weak. Housing starts and

sales remained at depressed levels, falling back after the

expiration of the temporary homebuyer tax credits.

The incoming data suggested that economic growth

abroad had been somewhat stronger than anticipated

and remained solid, boosting U.S. exports and supporting a pickup in U.S. manufacturing output and employment, though a surprising surge in imports in the

second quarter widened the U.S. trade deficit. Conditions in financial markets had become somewhat more

supportive of growth over the intermeeting period, in

part reflecting perceptions of diminished risk of financial dislocations in Europe: Medium- and longer-term

interest rates had fallen, some risk spreads had narrowed, and the decline in equity prices that had occurred in the months before the Committee’s June

_

meeting had been partly reversed. Moreover, participants saw some indications that credit conditions for

households and smaller businesses were beginning to

improve, albeit gradually. Thus, while they saw growth

as likely to be more modest in the near term, participants continued to anticipate that growth would pick

up in 2011.

Revised national income and product account data

showed that the contraction in aggregate output during

the recent recession had been larger than previously

reported. In particular, consumer spending had contracted more over the course of 2008 and the first half

of 2009, and recovered less rapidly, than previously

estimated, even as households’ after-tax incomes had

increased more than shown by the earlier data. In

combination, these revisions indicated that the personal

saving rate had been higher and had risen somewhat

more during the past three years than previously

thought. Participants recognized that the implications

of these new data for the outlook were unclear. On the

one hand, the revised data might indicate that households have made greater progress in repairing their balance sheets than had been realized, potentially allowing

stronger growth in consumer spending as the recovery

proceeds. On the other hand, the revised data might

signify that households are seeking to raise their net

worth more substantially than previously understood,

or to build greater precautionary balances in what they

perceive to be a more uncertain economic environment, with the result that growth in consumer spending

could remain restrained for some time.

Many participants noted that the protracted downturn

in house prices and in residential investment seemed to

have ended, although ups and downs in housing starts

and home sales associated with the temporary tax credit

for homebuyers made it difficult to be certain. A few

commented that home sales and prices appeared to be

edging up in their Districts. While recognizing that the

housing sector likely had bottomed out, participants

observed that large inventories of vacant and unsold

homes, along with continuing foreclosures that would

increase the number of houses for sale, likely would

continue to damp residential construction, indicating

that a sustained upturn from very low levels was not

imminent.

Business investment in equipment and software had

grown at a robust pace, but growth in new orders for

nondefense capital goods, though volatile from month

to month, appeared to have stepped down. Many participants noted that capital investment was heavily con-

Minutes of the Meeting of August 10, 2010

centrated in replacement investment and upgrades that

firms had postponed during the economic downturn.

A number of participants reported that business contacts again indicated that their uncertainty about the

fiscal and regulatory environment made them reluctant

to expand capacity. Other participants cited business

surveys and reports from business contacts indicating

that slow growth in sales and uncertainty about the

strength and durability of the recovery likely were more

important factors. Except in the extractive industries

(drilling and mining), investment in nonresidential

structures had continued to decline. The near-term

outlook for commercial real estate investment remained weak despite a decline in vacancy rates in some

markets.

Page 7

offset a decline in policy stimulus and a smaller boost

from inventory investment. Several participants noted

that the same shift in the sources of demand would

need to take place in the United States: Waning fiscal

stimulus on the part of the federal government and

continuing retrenchment in spending by state and local

governments would weigh on the economic recovery,

and recent data raised questions as to whether private

demand would strengthen enough to increase resource

utilization.

Participants agreed that credit conditions did not appear to be an important restraint on investment spending by larger firms that have access to the capital markets. Such firms were able to borrow readily and at

relatively low rates; moreover, many businesses held

substantial cash balances. In addition, survey results

suggested that a sizable fraction of banks had eased

loan terms, and a few had eased lending standards, on

C&I loans. Some participants observed that small

businesses continued to find credit hard to obtain.

However, several participants noted recent survey evidence indicating that most small firms that requested

credit were able to borrow, and that relatively few small

firms thought that access to credit was their most important problem. Standards for commercial real estate

loans and residential mortgages remained very tight,

and banks did not appear to be easing standards on

such loans. Some limited easing of lending standards

was noted for consumer loans, but credit availability

remained a constraint and consumer credit continued

to contract. However, several participants noted that

with credit quality improving, some bankers were more

actively seeking loan growth, though the same bankers

also indicated that the demand for loans remained

weak.

The incoming data on the labor market were weaker

than meeting participants had anticipated. Privatesector payrolls grew sluggishly in recent months. The

unemployment rate declined a bit, but that reflected a

decrease in labor force participation rather than an increase in employment. Policymakers discussed a variety of factors that appeared to be contributing to the

slow pace of job growth. A number of participants

reported that business contacts again indicated that

uncertainty about future taxes, regulations, and healthcare costs made them reluctant to expand their workforces. Instead, businesses had continued to meet

growth in demand for their products largely through

productivity gains and by increasing existing employees’

hours. Several participants suggested that structural

factors such as mismatches between unemployed

workers’ skills and the needs of employers with job

openings, or unemployed workers’ inability to move to

a new locale, were contributing to the elevated level

and long average duration of unemployment. Other

participants, while agreeing that such factors could restrain job growth and contribute to high rates of unemployment, noted that employment was lower than a

year earlier and that job openings were only slightly

above their lowest level in 10 years, indicating that few

firms saw a need to add employees. Most participants

viewed weak demand for firms’ outputs as the primary

problem; they saw substantial scope for stronger aggregate demand for goods and services to spur employment in a wide range of industries.

Many participants noted that European countries’ efforts to address their fiscal imbalances, and the release

of the results of the stress test of European banks

along with information about their exposures to sovereign debt, had reduced investor concern about downside risks in Europe. These factors appeared to have

supported improvements in financial markets both here

and abroad. Moreover, growth in Europe and Asia

apparently remained solid, boosting U.S. exports.

Nonetheless, a continuation of strong foreign growth

would require a pickup in private demand abroad to

Weighing the available information, participants again

expected the recovery to continue and to gather

strength in 2011. Nonetheless, most saw the incoming

data as indicating that the economy was operating

farther below its potential than they had thought, that

the pace of recovery had slowed in recent months, and

that growth would be more modest during the second

half of 2010 than they had anticipated at the time of the

Committee’s June meeting. Some policymakers whose

forecasts for growth had been in the low end of the

range of participants’ earlier projections viewed the

Page 8

Federal Open Market Committee

recent data as consistent with their earlier forecasts for

a weak recovery. A few participants, observing that

month-to-month data releases are noisy and subject to

revision, did not see the recent data as clearly indicating

a change in the outlook. Many policymakers judged

that downside risks to the U.S. recovery had become

somewhat larger; a few saw the incoming data as suggesting a greater risk that private demand for goods and

services might not grow enough to offset waning fiscal

stimulus and a smaller impetus from inventory restocking. In contrast, most saw a reduced risk of financial

turmoil in Europe and attendant spillovers to U.S. financial markets.

Policymakers generally saw the inflation outlook as little changed. They observed that a range of measures

continued to indicate subdued underlying inflation and

that growth in wages and compensation remained quite

moderate. Many said they expected underlying inflation to stay, for some time, below levels they judged

most consistent with the dual mandate to promote

maximum employment and price stability. Participants

viewed the risk of deflation as quite small, but a number judged that the risk of further disinflation had increased somewhat despite the stability of longer-run

inflation expectations. One noted that survey measures

of longer-run inflation expectations had remained positive in Japan throughout that country’s bout of deflation. A few saw the continuation of exceptionally accommodative monetary policy in the United States as

posing some upside risk to inflation expectations and

actual inflation in the medium run.

Committee Policy Action

In their discussion of monetary policy for the period

ahead, Committee members agreed that it would be

appropriate to maintain the target range of 0 to ¼ percent for the federal funds rate. Members still saw the

economic expansion continuing, and most believed that

inflation was likely to stabilize near recent low readings

in coming quarters and then gradually rise toward levels

they consider more consistent with the Committee’s

dual mandate for maximum employment and price stability. Nonetheless, members generally judged that the

economic outlook had softened somewhat more than

they had anticipated, particularly for the near term, and

some saw increased downside risks to the outlook for

both growth and inflation. Some members expressed a

concern that in this context any further adverse shocks

could have disproportionate effects, resulting in a significant slowing in growth going forward. While no

member saw an appreciable risk of deflation, some

judged that the risk of further near-term disinflation

_

had increased somewhat. More broadly, members generally saw both employment and inflation as likely to

fall short of levels consistent with the dual mandate for

longer than had been anticipated.

Against this backdrop, the Committee discussed the

implications for financial conditions and the economic

outlook of continuing its policy of not reinvesting principal repayments received on MBS or maturing agency

debt. The decline in mortgage rates since spring was

generating increased mortgage refinancing activity that

would accelerate repayments of principal on MBS held

in the SOMA. Private investors would have to hold

more longer-term securities as the Federal Reserve’s

holdings ran off, making longer-term interest rates

somewhat higher than they would be otherwise. Most

members thought that the resulting tightening of financial conditions would be inappropriate, given the economic outlook. However, members noted that the

magnitude of the tightening was uncertain, and a few

thought that the economic effects of reinvesting principal from agency debt and MBS likely would be quite

small. Most members judged, in light of current conditions in the MBS market and the Committee’s desire to

normalize the composition of the Federal Reserve’s

portfolio, that it would be better to reinvest in longerterm Treasury securities than in MBS. While reinvesting in Treasury securities was seen as preferable given

current market conditions, reinvesting in MBS might

become desirable if conditions were to change. A few

members worried that reinvesting principal from agency debt and MBS in Treasury securities could send an

inappropriate signal to investors about the Committee’s

readiness to resume large-scale asset purchases.

Another member argued that reinvesting repayments of

principal from agency debt and MBS, thereby postponing a reduction in the size of the Federal Reserve’s balance sheet, was likely to complicate the eventual exit

from the period of exceptionally accommodative monetary policy and could have adverse macroeconomic

consequences in future years.

All but one member concluded that it would be appropriate to begin reinvesting principal received from

agency debt and MBS held in the SOMA by purchasing

longer-term Treasury securities in order to keep constant the face value of securities held in the SOMA and

thus avoid the upward pressure on longer-term interest

rates that might result if those holdings were allowed to

decline. Several members emphasized that in addition

to continuing to develop and test instruments to facilitate an eventual exit from the period of unusually accommodative monetary policy, the Committee would

Minutes of the Meeting of August 10, 2010

need to consider steps it could take to provide additional policy stimulus if the outlook were to weaken

appreciably further. Given the softer tone of recent

data and the more modest near-term outlook, members

agreed that some changes to the statement’s characterization of the economic and financial situation were

necessary. All members but one judged that it was appropriate to reiterate the expectation that economic

conditions—including low levels of resource utilization,

subdued inflation trends, and stable inflation expectations—were likely to warrant exceptionally low levels

of the federal funds rate for an extended period. One

member argued that the recovery was proceeding about

as outlined earlier this year and that starting a gradual

process of removing policy accommodation fairly soon

would better foster the Committee’s long-run objectives of maximum employment and price stability.

At the conclusion of the discussion, the Committee

voted to authorize and direct the Federal Reserve Bank

of New York, until it was instructed otherwise, to execute transactions in the System Account in accordance

with the following domestic policy directive:

“The Federal Open Market Committee seeks

monetary and financial conditions that will

foster price stability and promote sustainable

growth in output. To further its long-run

objectives, the Committee seeks conditions

in reserve markets consistent with federal

funds trading in a range from 0 to ¼ percent.

The Committee directs the Desk to maintain

the total face value of domestic securities

held in the System Open Market Account at

approximately $2 trillion by reinvesting principal payments from agency debt and agency

mortgage-backed securities in longer-term

Treasury securities. The Committee directs

the Desk to engage in dollar roll and coupon

swap transactions as necessary to facilitate

settlement of the Federal Reserve’s agency

MBS transactions. The System Open Market

Account Manager and the Secretary will keep

the Committee informed of ongoing developments regarding the System’s balance

sheet that could affect the attainment over

time of the Committee’s objectives of maximum employment and price stability.”

The vote encompassed approval of the statement below to be released at 2:15 p.m.:

“Information received since the Federal

Open Market Committee met in June indi-

Page 9

cates that the pace of recovery in output and

employment has slowed in recent months.

Household spending is increasing gradually,

but remains constrained by high unemployment, modest income growth, lower housing

wealth, and tight credit. Business spending

on equipment and software is rising; however, investment in nonresidential structures

continues to be weak and employers remain

reluctant to add to payrolls. Housing starts

remain at a depressed level. Bank lending

has continued to contract. Nonetheless, the

Committee anticipates a gradual return to

higher levels of resource utilization in a context of price stability, although the pace of

economic recovery is likely to be more modest in the near term than had been anticipated.

Measures of underlying inflation have

trended lower in recent quarters and, with

substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to

be subdued for some time.

The Committee will maintain the target

range for the federal funds rate at 0 to

¼ percent and continues to anticipate that

economic conditions, including low rates of

resource utilization, subdued inflation trends,

and stable inflation expectations, are likely to

warrant exceptionally low levels of the federal funds rate for an extended period.

To help support the economic recovery in a

context of price stability, the Committee will

keep constant the Federal Reserve’s holdings

of securities at their current level by reinvesting principal payments from agency debt and

agency mortgage-backed securities in longerterm Treasury securities.¹ The Committee

will continue to roll over the Federal Reserve’s holdings of Treasury securities as they

mature.

The Committee will continue to monitor the

economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and

price stability.

¹ The Open Market Desk will issue a technical note shortly after the statement provid-

Page 10

Federal Open Market Committee

ing operational details on how it will carry

out these transactions.”

Voting for this action: Ben Bernanke, William C.

Dudley, James Bullard, Elizabeth Duke, Donald L.

Kohn, Sandra Pianalto, Eric Rosengren, Daniel K. Tarullo, and Kevin Warsh.

Voting against this action: Thomas M. Hoenig.

Mr. Hoenig dissented because he thought it was not

appropriate to indicate that economic and financial

conditions were “likely to warrant exceptionally low

levels of the federal funds rate for an extended period”

or to reinvest principal payments from agency debt and

agency mortgage-backed securities in longer-term

Treasury securities. Mr. Hoenig felt that the “extended

period” expectation could limit the Committee’s flexibility to begin raising rates modestly in a timely fashion, and he believed that the recovery, which had

entered its second year and was expected to continue at

a moderate pace, did not require support from additional accommodation in monetary policy. Mr. Hoenig

_

was also concerned that these accommodative policy

positions could result in the buildup of future financial

imbalances and increase the risks to longer-run macroeconomic and financial stability.

It was agreed that the next meeting of the Committee

would be held on Tuesday, September 21, 2010. The

meeting adjourned at 1:35 p.m. on August 10, 2010.

Notation Vote

By notation vote completed on July 13, 2010, the

Committee unanimously approved the minutes of the

FOMC meeting held on June 22–23, 2010.

_____________________________

William B. English

Secretary