• FOMC Meeting Response

    The Federal Reserve decided yesterday to leave the federal funds target rate unchanged at 0-0.25%, citing the slowness of the economy's growth and stable longer term inflation expectations . The Fed will also sell some short term Treasuries, and in return buy some longer term Treasuries. While there were calls for more action from the Fed, Tim Duy called the Fed' stance "bold." Bottom Line: I think Fed official believe they are being bold; I see them as continuing to ease policy in 25bp increments. Expect that to continue. Assuming the economy fails to regain momentum, the Fed will follow up with additional action – QE3 will be the next stop. Ignore the dissents; they are background noise. Don’t expect miracles; expect small moves, the equivalent of 15bp here, 25bp there. The real leverage could potentially come from fiscal policy leveraging the easy monetary policy. Print the money and spend it. Open up the refinancing channel. Overall, make the objective of national economic policy simply be to decisively move us off the zero bound. Not deficits, not the dual mandate, just commit to pulling us off the bottom. Read Duy's Fed Watch response to the FOMC meeting here . For more analysis of the announcement and possible response today on Wall Street and in Washington, here's the Wall Street Journal's Evan Newmark , Jon Hilsenrath , and Thorold Barker :

  • Reactions to Fed's Quantitative Easing Efforts

    The Federal Open Market Committee announced yesterday that it has begun another round of quantitiative easing . Though they did not use that term. From the announcement: To promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to expand its holdings of securities. The Committee will maintain its existing policy of reinvesting principal payments from its securities holdings. In addition, the Committee intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011, a pace of about $75 billion per month. The Committee will regularly review the pace of its securities purchases and the overall size of the asset-purchase program in light of incoming information and will adjust the program as needed to best foster maximum employment and price stability. There has been a lot of public discussion among economists over whether this monetary policy measure is the right move. Karen Dynan , Vice President and Co-Director, Economic Studies at the Brookings Institution , thinks it is, pointing to inflation being below the Fed's target and unemployment being, in a word, "weak": For more of Dynan's analysis, click here . Meanwhile, writing in the Financial Times , Martin Feldstein calls the policy a "dangerous gamble": Mr Bernanke’s argument for QE is based on the “portfolio balance” theory which stresses that, when the Fed buys bonds, investors increase their demand for other assets, particularly equities, raising their price and increasing household wealth and spending. Equity prices have already risen by 10 per cent since Mr Bernanke discussed this approach. But how much further will equity prices rise and what will that do to GDP? Neither theory nor past experience can answer the first question. Much of the share price increase induced by QE may already have occurred based on expectations. An optimistic guess would be another 10 per cent. Since households have about $7,000bn in equities, that would imply a wealth gain of $700bn, raising consumer spending by about one-quarter of one per cent of GDP, a welcome but trivially small effect on incomes and employment. The other ways in which QE would raise GDP are also small. A 20-basis-point reduction in mortgage rates would have little effect on homebuying at a time when house prices are again falling. The increase in banks’ liquidity would do nothing since banks already have massive excess reserves. Big corporations are sitting on vast amounts of cash. Small businesses that are not spending because they cannot get credit will not be helped, because the banks on which they depend have a shortage of capital. Read Feldstein's op-ed here .

  • Bernanke Defends Fed's Actions

    There has been plenty of bad news in recent days, from markets tumbling to scary figures about "underwater" mortgages , but Federal Reserve Chair Ben Bernanke says things would be worse if not for the Fed's actions over the last six months: The measures taken since September by the Federal Reserve, other U.S. government entities, and foreign governments have helped improve conditions in some financial markets. In particular, strains in short-term funding markets have eased notably since last fall, and London interbank offered rates, or Libor--which influence the interest rates faced by many U.S. households and businesses--have decreased sharply. Conditions in the commercial paper market also have improved, even for lower-rated borrowers, and the sharp outflows from money market mutual funds in September have been replaced by modest inflows. In the market for conforming mortgages, interest rates have fallen nearly 1 percentage point since the announcement of our intention to purchase agency debt and agency mortgage-backed securities. Corporate risk spreads have also declined somewhat from extraordinarily high levels, although bond spreads remain elevated by historical standards. Likely spurred by the improvements in pricing and liquidity, issuance of investment-grade corporate bonds has been strong, and speculative-grade issuance, which was near zero in the fourth quarter, has picked up somewhat more recently. Nevertheless, significant stresses persist in many markets. For example, most securitization markets remain closed, and some financial institutions remain under pressure. That is from Bernanke's testimony before the Senate Budget Committee yesterday. Here is his full opening statment: You can read a transcript of Bernanke's testimony here .