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Boston Fed President: Quantitative easing may not work as well next time

Brian Cheung
·Reporter
·4 min read
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A flight to safety has pushed down bond yields to all-time lows, sparking concern within the Federal Reserve that market moves would weaken quantitative easing if policymakers sought to use the unconventional tool again.

On Friday, Federal Reserve Bank of Boston President Eric Rosengren said the precipitous fall in the yield on the 10-year U.S. Treasury (^TNX) reflects the appetite for “hedges against recession risk.”

Amid the tumultuous market moves stemming from coronavirus fears, the 10-year yield touched a new low of 0.66% early on Friday morning. Over the last two weeks, the 10-year yield has fallen over 90 basis points.

“[T]here would be little room for the Federal Reserve to lower rates through large purchases of long-term Treasury securities, like it did to make conditions more accommodative in and after the Great Recession, if a recession occurred in this rate environment,” Rosengren said at a conference in New York.

In the financial crisis, the Fed purchased longer-term Treasuries to flatten the yield curve, lower borrowing costs, and spur economic activity. But with longer-term rates already so low, Rosengren said the Fed may have more potency in the next crisis by buying a “broader range” of securities or assets.

Rosengren’s comments come as the Fed reasons through future tools to use if the central bank is backed into lowering interest rates to zero again. On Tuesday, the Fed abruptly slashed its target benchmark rate by 50 basis points, and policymakers are engaging in a public debate over how to deploy unconventional tools like QE — if they need them.

At the same conference, Kansas City Fed President Esther George expressed worry over the “conventional wisdom” that QE had negligible effects.

“[I]t remains less than clear to me that the longer-run costs of balance sheet policies have been fully taken into account,” George said.

Limitations

The European Central Bank is buying corporate debt and the Bank of Japan is buying equities, but by statute, the Fed has limited authority in what it can buy.

Section 14 of the Federal Reserve Act limits open market purchases to obligations issued by or guaranteed by the U.S. government. The agency debt and mortgage-backed securities that the Fed purchased in the financial crisis were largely guaranteed by Fannie Mae, Freddie Mac, and Ginnie Mae.

Rosengren acknowledged that the Fed would need an act of Congress in order to expand its authority to buy securities and assets, illustrating that his preference for the time being would be stimulus coming from Congress.

NEW YORK, NY - SEPTEMBER 20:  (EXCLUSIVE COVERAGE) Boston Federal Reserve President Eric Rosengren visits Fox Business News at Fox Business Network Studios on September 20, 2019 in New York City.  (Photo by Slaven Vlasic/Getty Images)
NEW YORK, NY - SEPTEMBER 20: (EXCLUSIVE COVERAGE) Boston Federal Reserve President Eric Rosengren visits Fox Business News at Fox Business Network Studios on September 20, 2019 in New York City. (Photo by Slaven Vlasic/Getty Images)

Meanwhile, George said she has many reservations about the Fed buying assets that are not Treasuries.

“These effects, together with the perception that interest rates will remain at historically low levels for a prolonged period, can lead to a buildup of financial imbalances that ultimately pose risks to the real economy,” George said Friday.

She also said a large balance sheet also creates the temptation for fiscal policymakers to use the Fed to fund government programs. George pointed to the Consumer Financial Protection Bureau, the regulatory watchdog created by U.S. Sen. Elizabeth Warren.

Under the 2010 Dodd-Frank Act, the CFPB receives financing from the Fed.

“I would argue that we have seen a degree of this risk unfold,” George said.

Both Rosengren and George expressed skepticism over the effectiveness of negative interest rates in the future.

Rosengren said as fiscal policy comes into view, he would like to see floated automatic stabilizers, which offset economic fluctuations with a dynamic government budget, or infrastructure spending as possible policies.

“In a low-interest-rate environment, the obvious alternative to monetary policy in a downturn is to depend on fiscal policy shouldering a greater share of the burden for providing needed stimulus to the economy,” Rosengren said.

Brian Cheung is a reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

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