Quantifying the macroeconomic effects of large-scale asset purchases
Karl Walentin 11 September 2014
Central banks have resorted to various unconventional monetary policy tools since the onset of the Global Crisis. This column focuses on the macroeconomic effects of the Federal Reserve’s large-scale purchases of mortgage-backed securities – in particular, through reducing the ‘mortgage spread’ between interest rates on mortgages and government bonds at a given maturity. Although large-scale asset purchases are found to have substantial macroeconomic effects, they may not necessarily be the best policy tool at the zero lower bound.
Central banks have used various unconventional monetary policy tools since the onset of the financial crisis yet the debate continues regarding their efficiency. This column attempts to shed light on the ‘bang for the buck’, or the macroeconomic effects, of one such unconventional monetary policy – the Federal Reserve’s large-scale asset purchases of mortgage-backed securities employed during the Fed’s QE1 and QE3 programs.
Global crisis Monetary policy
monetary policy, unconventional monetary policy, large-scale asset purchases, central banking, financial crisis, Federal Reserve, quantitative easing, mortgage-backed securities, term premia, zero lower bound, interest rates, US, UK, Sweden, mortgages, global crisis
What were they thinking? The Federal Reserve in the run-up to the 2008 financial crisis
Stephen Golub, Ayse Kaya, Michael Reay 08 September 2014
Since the Global Crisis, critics have questioned why regulatory agencies failed to prevent it. This column argues that the US Federal Reserve was aware of potential problems brewing in the financial system, but was largely unconcerned by them. Both Greenspan and Bernanke subscribed to the view that identifying bubbles is very difficult, pre-emptive bursting may be harmful, and that central banks could limit the damage ex post. The scripted nature of FOMC meetings, the focus on the Greenbook, and a ‘silo’ mentality reduced the impact of dissenting views.
Financial crises are caused by imprudent borrowing and lending, but as former Federal Reserve chairman William McChesney Martin noted, it is ultimately up to regulators to ‘take away the punch bowl’ when the larger economy is at risk. Indeed, many have criticised regulators for failing to anticipate and prevent the 2008 crash (Buiter 2012, Gorton 2012, Johnson and Kwak 2010, Roubini and Mihm 2010). Little work has been done, however, on why regulatory agencies failed to act despite warnings from prominent commentators (Borio and White 2004, Buffett 2003, Rajan 2005).
Financial markets Global crisis Monetary policy
financial crisis, Federal Reserve, FOMC, global crisis, collateralised debt obligations, Credit Default Swaps, LTCM, CDOs, CDSs, central banking
What are the macroeconomic effects of asset purchases?
Martin Weale, Tomasz Wieladek 10 June 2014
After reducing their policy rates close to zero in response to the global financial crisis, the Bank of England and the Federal Reserve began purchasing assets. This column assesses the effect of these asset purchases on output and inflation. In line with previous studies, the authors find that asset purchase announcements are associated with increases in both output and inflation in both countries. They also find that quantitative easing had a larger impact on UK inflation, which suggests that the UK Phillips curve is steeper.
After policy rates fell close to zero in response to the global financial crisis of 2008-09, the scope for further conventional monetary policy easing was exhausted. As a result, both the Bank of England and the Federal Reserve embarked on large-scale asset purchases of government and financial securities (see Figures 1 and 2).
inflation, Federal Reserve, Phillips curve, Bank of England, quantitative easing, unconventional monetary policy, output
The transmission of Federal Reserve tapering news to emerging financial markets
Joshua Aizenman, Mahir Binici, Michael M Hutchison 04 April 2014
In 2013, policymakers began discussing when and how to ‘taper’ the Federal Reserve’s quantitative easing policy. This column presents evidence on the effect of Fed officials’ public statements on emerging-market financial conditions. Statements by Chairman Bernanke had a large effect on asset prices, whereas the market largely ignored statements by Fed Presidents. Emerging markets with stronger fundamentals experienced larger stock-market declines, larger increases in credit default swap spreads, and larger currency depreciations than countries with weaker fundamentals.
The quantitative easing (QE) policies of the US Federal Reserve in the years following the crisis of 2008–2009 included monthly securities purchases of long-term Treasury bonds and mortgage-backed securities totalling $85 billion in 2013. The cumulative outcome of these policies has been an unprecedented increase of the monetary base, mitigating the deflationary pressure of the crisis.
Exchange rates International finance Monetary policy
exchange rates, Federal Reserve, asset prices, emerging markets, stock markets, Credit Default Swaps, tapering
Turmoil in emerging markets: What’s missing from the story?
Kristin Forbes 05 February 2014
The Federal Reserve’s ‘taper talk’ in spring 2013 has been blamed for outflows of capital from emerging markets. This column argues that global growth prospects and uncertainty are more important drivers of emerging-market capital flows than US monetary policy. Although crises can affect very different countries simultaneously, over time investors begin to discriminate between countries according to their fundamentals. Domestic investors play an increasingly important – and potentially stabilising – role. During a financial crisis, ‘retrenchment’ by domestic investors can offset foreign investors’ withdrawals of capital.
Emerging markets are going through another period of volatility – and the most popular boogeyman is the US Federal Reserve.
The basic storyline is that less accommodative US monetary policy has caused foreign investors to withdraw capital from emerging markets, causing currency depreciations, equity declines, and increased borrowing costs. In many cases, these adjustments will slow growth and increase the risk of some type of crisis.
Federal Reserve, capital flows, emerging markets, global financial crisis, tapering
Unconventional monetary policy normalisation and emerging-market capital flows
Andrew Burns, Mizuho Kida, Jamus Lim, Sanket Mohapatra, Marc Stocker 21 January 2014
The Federal Reserve has begun to ‘taper’ its programme of quantitative easing. The ‘taper tantrum’ that followed the announcement of tapering in May 2013 suggests that the normalisation of rich countries’ unconventional monetary policies may lead to capital outflows and currency depreciations in emerging markets. This column presents the results of recent World Bank research into these effects. In the baseline scenario, the unwinding of QE is predicted to reduce capital inflows by about 10%, or 0.6% of developing-country GDP by 2016. However, if markets react abruptly, capital flows could decline by as much as 80% for several months.
Quantitative easing (QE), which started in 2008, swelled the Federal Reserve’s balance sheet to an unprecedented $3.4 trillion. In May 2013, the Fed announced that it would evaluate the possibility of a reversal of its unconventional monetary policies – QE in particular .
The event, which has come to be known as ‘tapering’, prompted a sharp, negative response from financial markets (the so-called ‘taper tantrum’):
Financial markets International finance Monetary policy
Federal Reserve, quantitative easing, unconventional monetary policy, tapering
Tapering talk: The impact of expectations of reduced Federal Reserve security purchases on emerging markets
Barry Eichengreen, Poonam Gupta 19 December 2013
Fed tapering has started. A revival of last summer’s emerging economy turmoil is a real concern. This column discusses new research into who was hit and why by the June 2013 taper-talk shock. Those hit hardest had relatively large and liquid financial markets, and had allowed large rises in their currency values and their trade deficits. Good macro fundamentals did not provide much insulation, nor did capital controls. The best insulation came from macroprudential policies that limited exchange rate appreciation and trade deficit widening in response to foreign capital inflows.
In May 2013, Federal Reserve officials first began to talk of the possibility of the US central bank tapering its securities purchases from $85 billion a month to something lower. A milestone to which many observers point is 22 May 2013, when Chairman Bernanke raised the possibility of tapering in his testimony to Congress. This ‘tapering talk’ had a sharp negative impact on economic and financial conditions in emerging markets.
Three aspects of that impact are noteworthy:
Exchange rates Monetary policy
exchange rates, monetary policy, Federal Reserve, emerging markets, capital controls, Macroprudential policies, Capital inflows, currency war, tapering
Dark side of housing-price appreciation
Indraneel Chakraborty, Itay Goldstein, Andrew MacKinlay 25 November 2013
Higher asset prices increase the value of firms’ collateral, strengthen banks’ balance sheets, and increase households’ wealth. These considerations perhaps motivated the Federal Reserve’s intervention to support the housing market. However, higher housing prices may also lead banks to reallocate their portfolios from commercial and industrial loans to real-estate loans. This column presents the first evidence on this crowding-out effect. When housing prices increase, banks on average reduce commercial lending and increase interest rates, leading related firms to cut back on investment.
Policymakers around the world often worry about decreases in real-estate prices and other asset prices, and take measures to prevent them. For example, in the aftermath of the financial crisis, the Federal Reserve has engaged in large-scale asset purchases – especially of mortgage-backed assets – to support the housing market and, in turn, the overall economy.
Financial markets Monetary policy
housing, Federal Reserve, investment, asset prices, banks, lending, real estate
Forward policy guidance at the Federal Reserve
John C. Williams 16 October 2013
The Federal Open Market Committee has used various forms of forward guidance to influence the views of businesses, investors and households about where monetary policy is likely to be headed. This column by the President of the San Francisco Fed presents his views on the benefits, limitations and future role of forward policy guidance.
In response to the financial crisis, the Federal Open Market Committee (FOMC) lowered the target federal funds rate to essentially zero in December 2008, where it has remained. The economy, however, was still reeling, and it wasn’t possible to create additional monetary stimulus by cutting the federal funds rate further—owing to the inability of nominal interest rates to fall much below that point.
Federal Reserve, forward guidance
Unwinding quantitative easing
Stephen Grenville 22 June 2013
Chairman Bernanke’s hints about the end of quantitative easing (QE) have produced volatility in financial markets. This column argues that financial markets were startled because an end to QE is likely to cause capital losses for bond holders since term premium is substantially negative. Bank regulators should be alert to the possibility. This fundamental explanation is teamed with widespread confusion among market participants about how quantitative easing actually works.
Fed Chairman Ben Bernanke’s prepared statement on 22 May was the epitome of even-handed non-committal drafting (Federal Reserve 2013b) but the mention of "stepping down" and "in the next few meetings" in the discussion sent a shiver through financial markets worldwide. Bond yields jumped just about everywhere; the Abenomics euphoria in Japan deflated; and capital flows to emerging markets reversed direction. Bernanke was just pointing out the obvious and he went on to say that “we could either raise or lower our pace of purchases going forward”. Why were financial markets so startled?
Global crisis International finance
Federal Reserve, Bernanke, QE