The Federal Open Market Committee (FOMC) met on Tuesday and Wednesday to discuss the state of the US economy and to decide on monetary policy actions. This meeting is a particularly interesting meeting because of the clear signs of economic weakness over the past six months and the relatively new phenomena of the direct political pressure on the Fed. According to a New York Times story, Republican presidential candidates have made criticism of the Fed a central theme of the early campaign, and Republican leaders in the House and Senate sent a letter Tuesday to Mr. Bernanke warning that new measures could “further harm the U.S. economy.”
The FOMC last met in August, when it’s post meeting statement indicted that “downside risks to the economic outlook have increased”, and its policy statement included the expectation “that economic conditions–including low rates of resource utilization and a subdued outlook for inflation over the medium run–are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.” As of Wednesday, the FED now believes “there are significant downside risks to the economic outlook, including strains in global financial markets.” And, it has announced new policy moves to put additional downward pressure on long term interest rates.
The policy change includes two provisions.
- On Monday, October 3, the Fed will begin reinvesting “principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities.” This differs from the current practice of reinvesting principal payments from holdings of agency debt and agency MBS in Treasury securities. The result will be some downward pressure on mortgage rates.
- And, the FOMC decided to “extend the average maturity of its holdings of securities. The Committee intends to purchase, by the end of June 2012, $400 billion of Treasury securities with remaining maturities of 6 years to 30 years and to sell an equal amount of Treasury securities with remaining maturities of 3 years or less. This program should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative.”
After the Fed’s announcement, the Ten year Treasury yield declined on Wednesday to 1.848% — another record low. These actions together will likely result in conforming 30 year mortgage rates in the 3.75-4% range vs the 4.09% rate according to Freddie Mac’s weekly Primary Mortgage Market Survey.
Whether or not these actions will result in much additional stimulus for the US economy will largely depend on the extent of the mortgage refinancing that is possible given the tighter lending standards and the extent of negative equity problems. Corelogic reported last week “22.5 percent, of all residential properties with a mortgage were in negative equity at the end of the second quarter of 2011, down very slightly from 22.7 percent in the first quarter.”
A useful way to think about the Fed’s actions is that they are designed to maintain a monetary environment that will support growth as private demand (hopefully) begins to pick up. That is the right perspective to take on the President’s jobs proposal, as well. Neither of these two policies are going to jolt the US economy into a new higher growth equilibrium, but rather both can help to mitigate the extent of fiscal contraction already in the pipeline. Again, so that the policy stance is supportive of private sector growth as it begins to pick up.
Read the FOMC statement
– Carl Bonham, Byron Gangnes
