The Federal Reserve faces a tough decision at its meeting this week as an improving economy builds the case for the winding down of monetary stimulus, but Goldman Sachs says the central bank is likely to hold off from tapering its $85 billion monthly bond-buying program until next year.
"The case for tapering on the basis of the data since October is mixed at best. The strongest argument in favor is the improvement in the trend rate of payroll growth to the 200,000 level," Goldman Sachs economists wrote in a note late Friday. "However, we expect that Fed officials will also put considerable weight on inflation, which has fallen further in recent months."
The U.S. economy added a better-than-expected 203,000 jobs in November, and the unemployment rate dropped to a five-year low of 7 percent.
However, the Fed's preferred personal consumption expenditures (PCE) inflation measure is near historical low levels, and below the central bank's 2 percent target. Headline PCE inflation eased to 0.74 percent year-on-year in October, from 0.95 percent in the previous month.
"At current spot and projected inflation rates, a tightening move would be quite unusual by historical standards," Goldman Sachs analysts added, noting that their central forecast is for the Fed to begin tapering in March, starting with a $10 billion reduction in the pace of Treasury purchases.
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The Federal Open Market Committee (FOMC) will hold its final policy meeting of the year on December 17-18. The meeting will also be Ben Bernanke's second-to-last meeting at the helm of the central bank.
Anticipation is running high as the recent economic data roughly meet the Fed's "substantial improvement in the outlook for the labor market" criterion for tapering the pace of asset purchases, say analysts.