Federal Reserve chairman Ben Bernanke defended the Fed’s recent decision to extend Operation Twist, saying any economic benefit from the sale of short-term securities to acquire long-term bonds is several months out.
He also indicates some further easing may be on the horizon. “There is scope for further action by the Federal Reserve to ease financial conditions and strengthen the recovery,” the Fed Chair wrote.
The Fed Chair made that conclusion, while also defending the possibility of additional quantitative easing, in a letter to Rep. Darrel Issa, R-Calif.
As chair of the House Committee on Oversight and Government Reform, Rep. Issa sent Bernanke a series of questions about the Fed’s recent stimulus activities. Financial markets are already reacting. Analysts at Goldman Sachs (GS) predict more Fed support for the economy could come in the form of a combination of buying strategies shared between Treasurys and agency mortgage-backed securities.
The current easing program, Operation Twist, the Federal Reserve intends to sell or redeem a total of $667 billion of shorter-term Treasurys by the end of 2012 and use the proceeds to buy longer-term Treasurys. The program extend the maturity of the Fed’s own portfolio, thereby putting downward pressure on long-term interest rates which, in turn, contributes to a broad easing in financial market conditions.
Bernanke responded with a letter addressing each question, punctuating too key points: the Fed’s actions prevented more difficult circumstances and the belief more should be done to address structural issues in the economy.
When asked if additional easing can cure the economy, given today’s unemployment rate and sluggish growth, Bernanke said additional interventions could be on the table.
Bernanke’s bold statements arrive the same week that analysts with Capital Economics projected another round of quantitative easing, or QE3, in the near future.
“Although a few of the non-voting regional Fed presidents still appear to have reservations, we doubt that the slight uptick in the incoming economic data in the past couple of weeks will have softened Bernanke’s resolve,” Capital Economics suggested.
Yet, Bernanke noted in his own letter to Issa that with short-term interest rates already low, new accommodation requires nontraditional policy tools.
Rep. Issa also questioned whether lenders are deferring the extension of long-term loans until they see a market correction.
Bernanke in response said, “Lenders will determine the profitability of extending long-term loans based on a complex set of considerations, including not only the rate of the loan but also the cost of funds to the lender and the creditworthiness of the borrower.”
With this in mind, Bernanke said the Fed is focused on producing maximum employment and stable prices that can create would-be borrowers that lenders are willing to extend credit to.
