Fed launches $400bn ‘Operation Twist’
2011-09-22 09:49:02
The US Federal Reserve launched “Operation Twist” on Wednesday in a bold attempt to drive down long-term interest rates and reinvigorate the faltering economy.
The central bank said that it would buy $400bn of long-dated Treasuries, financed by the sale of an equal amount of bonds with three years or less to run.
“This programme should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative,” said the Fed. The policy is named after a similar attempt to twist the shape of the yield curve in the early 1960s.
The Fed also sprung a surprise by pledging to reinvest any early repayments from mortgage securities back into debt issued by mortgage financiers such as Fannie Mae and with a strong focus on buying30-year Treasuries. “We got a double twist,” said Diane Swonk, chief economist at Mesirow Financial in Chicago.
Such a big move suggests that Ben Bernanke, Fed chairman, is alarmed by the slowdown, and has decided to override opposition on the rate-setting Federal Open Market Committee and provide as much stimulus as easily practical. The purchases will run until June 2012. “Operation Twist” means that the Fed will increase the average maturity of its assets but, unlike its previous rounds of quantitative easing, the Fed will not expand the overall size of its balance sheet. Economists estimate that a twist of $400bn could have a similar effect on interest rates to the $600bn QE2 programme of outright asset purchases that the Fed launched last November.
Long-term interest rates fell after the move, with the yield on the 30-year Treasury bond dropping to 3 per cent from 3.22 per cent. The S&P 500 index lost 2.9 per cent, reflecting concerns about economic weakness.
The FOMC voted for the decision by seven to three. The move to launch such a large twist means the Fed has almost no scope to increase the size of the policy further. If it wanted to ease monetary policy in future by buying more assets it would probably have to increase the size of its balance sheet.
The move follows the Fed’s August statement that it was likely to keep interest rates exceptionally low until “at least through mid-2013”. It chose not to make further changes to its communication policy at this meeting although that remains a subject of lively debate within the central bank.
The decision reflects further weakness in data since its August meeting. In the most important change to its language on the economy, the Fed said “there are significant downside risks to the economic outlook, including strains in global financial markets.”