lunes, 17 de septiembre de 2012

Central banks to the rescue...

Last Thursday and Friday, respectively, the Fed and the European Central Bank (ECB) rode to the rescue: stock prices climbed on the heels of their announcements and investors heaved a sigh of relief as the banks' actions hold out hope that disaster can be averted.

First, the Fed...

What was new in the Fed's statement following its Open Market Committee meeting? The announcement of its third QE program and, especially, the open-ended time commitment of QE3 and the explicit linkage of QE3 to unemployment. The Fed began purchasing (mortgage backed securities (MBS) the next day, September 14. The Fed plans to purchase US$40 billion a month for as long as it takes "if the outlook for the labor market does not improve substantially". Between QE3 and Operation Twist, the Fed will increase its holdings of longer-term securities by about US$85 billion a month through year-end. Operation Twist (the replacement of short-term Treasuries with longer-term ones) expires at the end of 2012.

It wasn't so surprising that the Fed said it would leave the Fed Funds rate where it is (0% - 1/4%) for another year (until mid-2015). But it was an indication of how concerned the Fed is about unemployment that it added that the rate will "remain appropriate for a considerable time after the economic recovery strengthens". In other words, growth alone won't be enough to convince the Fed to raise rates.

The Fed also left the door open to further actions. Additional asset purchases were specifically mentioned. The most traditional of the "other policies" of which the Fed might be thinking would be extending the interest rate pledge. The Fed might also consider some more novel approaches. The ECB has demonstrated that cutting the interest rate on banks' excess reserves to zero doesn't disrupt the financial system. The Bank of England (Great Britain's central bank) has instituted a "funding for lending" program, which attempts to ensure that banks receiving additional funding from the central bank lend the money, not sit on it. Depending on how well the program works, it's something the Fed might consider.


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