Fed's first mission largely accomplished, next FOMC meeting expected to be transitional

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      By Eric Stein, CFAChief Investment Officer, Fixed Income, Eaton Vance Management

      Boston - The next Federal Open Market Committee (FOMC) meeting on June 9 is expected to be a transitional meeting for the Federal Reserve (Fed). Roughly three months from the worst of the market sell-off related to the COVID-19 pandemic, it is crystal clear to most market observers that the Fed's response has been quite effective at the dual goal of market functioning and bridge financing.

      Near-term objectives largely met

      Markets are now functioning much better than in March: Asset prices are up, and because there is more liquidity, markets are a lot less stressed. With respect to the goal of providing bridge finance, certain milestones have been met. But at this point the economy is nowhere near recovered from the COVID-19 crisis — despite last Friday's much better than expected employment report.

      So far, however, the Fed's programs have certainly opened up credit markets, which has been helpful. Now that these dual goals have largely been accomplished, I think the Fed will transition its focus to an economy that is expected to be very weak from a medium-term perspective — likely to recover but the pace and trajectory of that recovery are still going to be determined by health policy and how quickly the economy can open up.

      Focus on the medium term

      I expect the Fed to transition to more of a focus on medium-term economic policy, growth and inflation — and making assessments on the strength of the recovery and the potential for future policy measures. I also think the Fed could come out with some form of forward guidance on its policy to keep rates at essentially zero on the front end and move to a more open-ended quantitative easing (QE).

      The Fed had already announced a large-scale QE, but it has tapered that a little bit because markets had been functioning better. Now I think policymakers are going to potentially use QE as part of a more traditional monetary policy tool to help growth and to increase inflation expectations, which are more typical reasons to use QE. That announcement could come at this meeting in June, although with the better employment data, it could be delayed to the next meeting at the end of July or even two meetings out in September. I expect there is a good chance we'll see at least some part of the transition at this week's meeting.

      Bottom line: Expect the Fed to transition to a focus on more "traditional" monetary policy, with a focus on finding ways to invigorate growth amid a weak economic environment.