"Bernanke May Need to Ramp Up Fed’s Asset Purchases (Update2)
By Craig Torres
March 17 (Bloomberg) -- Chairman Ben S. Bernanke and Federal Reserve policy makers may have to ramp up their purchases of mortgage securities and other assets after the economy and job market deteriorated further since they last met.
The Federal Open Market Committee, gathering today and tomorrow in Washington, needs to redouble its efforts after the central bank’s balance sheet shrank 17 percent from a $2.3 trillion December peak, Fed watchers said. The retreat came even as Bernanke acknowledged the chance that the unemployment rate will exceed 10 percent for the first time in a quarter century.
“It takes massive balance-sheet expansion to generate significant easing in financial conditions,” said Andrew Tilton, an economist at Goldman Sachs Group Inc. in New York who used to work at the Treasury. “More needs to be done.”
This week’s FOMC meeting could mark a shift toward more aggressive monetary expansion to fight deflation after demand waned for many of the Fed’s existing programs. One top consideration is an increase in the pace and size of a $600 billion program to buy bonds issued and backed by U.S. housing agencies such as Fannie Mae, analysts said.
Other measures could include everything from purchases of Treasuries to corporate bonds, Tilton said. The Fed has already agreed to work with the Treasury on implementing a program to revive consumer and business loans, which the Obama administration has said could reach $1 trillion.
Fed Statement
The Fed is scheduled to issue its statement around 2:15 p.m. tomorrow.
Longer-maturity Treasuries rose for the first time in three days as investors speculated Fed officials will provide more guidance on possible purchases of U.S. debt. The 30-year bond’s yield fell 4 basis points to 3.72 percent at 12:10 p.m. in New York after touching 3.82 percent yesterday, the highest level since November.
“The FOMC statement is the natural place to announce when such an increase” in asset purchases would occur, said Michael Feroli, an analyst at JPMorgan Chase & Co. in New York and former Fed economist. “Doing so at the March meeting would have the added benefit of showing the public that the Fed can respond when the outlook deteriorates.”
Japan, U.K. Moves
The Bank of Japan said today it will buy subordinated debt from banks in an effort to spur lending and the Bank of England has started buying government bonds to boost the money supply.
Financial markets have diverged since the FOMC last met Jan. 27-28, with stocks rallying even as credit markets remained distressed.
Equity investors were encouraged by signs in the past week that a depression will be averted, with Bernanke playing down that scenario in a television interview with CBS’s 60 Minutes that aired March 15. The Standard & Poor’s 500 Stock Index has risen 11 percent since March 9.
The Bloomberg U.S. Financial Conditions Index is still about five standard deviations below the average of the 1992 to 2008 period. Standard deviation measures how much a value varies from the mean.
Investors demand an average of 6 percentage points more than corresponding U.S. Treasuries to buy investment-grade U.S. corporate bonds, according to data compiled by Merrill Lynch & Co. That’s up from 5.40 percentage points when the FOMC met Jan. 28.
Consumer-Loan Rates
Consumer borrowing costs are also elevated. The rate on 60- month loans for new cars climbed to 7.32 percent, close to a seven-year high, as of March 13 from 7.08 percent when central bankers last gathered.
“The more they expand, the better markets are going to be,” said Richard Schlanger, a vice president who helps invest $13 billion in fixed-income securities at Pioneer Investment Management in Boston, referring to U.S. central bankers.
Total assets held by the Fed stand at $1.90 trillion, down from a record $2.31 trillion in December. Credit outstanding in four Fed liquidity programs, such as loans to banks and primary dealers and a facility for commercial paper, has shrunk $118 billion in two months.
“They need to make it clear they want to move aggressively,” said Ethan Harris, co-head of economic research at Barclays Capital Inc. “The economy warrants a faster move and the markets do, too.”
Strategy Differences
Bernanke calls the Fed’s policies “credit easing” to contrast with the “quantitative easing” used by the Bank of Japan earlier this decade, which targeted reserves injected into the banking system.
The Fed’s current focus is on purchases of mortgage securities and a program designed to boost consumer lending called the Term Asset-Backed Securities Loan Facility, known as TALF, which could grow to $1 trillion.
Bernanke’s view is if the Fed provides liquidity, credit will flow and lower the price of loans, feeding pent-up demand for homes, cars, credit-card borrowing and capital expenditures by business in the depths of the worst recession in a generation.
Analysts are skeptical. “The concern about the TALF is not so much the investor interest in it, but the availability of eligible” securities to buy, given lack of consumer demand for new debt, said Tilton of Goldman Sachs.
Wealth Destruction
Consumers will borrow if they see solid job prospects and rising wealth, economists said. Right now, neither condition is in place. The unemployment rate in February was 8.1 percent, up almost 2 percentage points in the past six months. Household wealth fell by a record $5.1 trillion last quarter. Personal savings as a percent of disposable income has risen every month since August.
A less effective TALF would lead the Fed to use its authority to purchase assets and expand the supply of money, some Fed watchers said.
“I would be surprised if they didn’t continue buying another $500 billion of mortgage-backed securities in the second half given the downside risks to the economy and the fact that the mortgage market is still in a shambles,” said Christopher Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ Ltd. in New York."
And:Hey Nick,
Don: yes, that looks like quantitative easing.
Westslope: Very informative comment. I just want to clarify the difference between open and closed version input-output models.
Open versions ignore the effects of increased consumer spending. Closed (as in "closed-loop"?) versions include the effects of increased consumer spending, in a feedback loop. Both versions assume unemployed resources (no resource constraints). Employment is determined by demand for labour (and other inputs). Is that correct?
Isn't this your idea only in a different form?
Take care,
Don
"March 17 (Bloomberg) -- Chairman Ben S. Bernanke and Federal Reserve policy makers may have to ramp up their purchases of mortgage securities and other assets after the economy and job market deteriorated further since they last met.
The Federal Open Market Committee, gathering today and tomorrow in Washington, needs to redouble its efforts after the central bank’s balance sheet shrank 17 percent from a $2.3 trillion December peak, Fed watchers said. The retreat came even as Bernanke acknowledged the chance that the unemployment rate will exceed 10 percent for the first time in a quarter century.
“It takes massive balance-sheet expansion to generate significant easing in financial conditions,” said Andrew Tilton, an economist at Goldman Sachs Group Inc. in New York who used to work at the Treasury. “More needs to be done.”
This week’s FOMC meeting could mark a shift toward more aggressive monetary expansion to fight deflation after demand waned for many of the Fed’s existing programs. One top consideration is an increase in the pace and size of a $600 billion program to buy bonds issued and backed by U.S. housing agencies such as Fannie Mae, analysts said.
Other measures could include everything from purchases of Treasuries to corporate bonds, Tilton said. The Fed has already agreed to work with the Treasury on implementing a program to revive consumer and business loans, which the Obama administration has said could reach $1 trillion. "