Fed Tapering: Baby Steps Are Better Than No Steps
U.S. Federal Reserve Chairman Ben Bernanke will hold a press conference Wednesday, at the conclusion of a two-day Federal Open Market Committee policy meeting that is currently underway, during which he is expected to announce a reduction in the flow rate of the Fed’s asset purchase program. This program of quantitative easing — the third major round since the onset of the late-2000s recession — has the Fed purchasing $40 billion worth of agency mortgage-backed securities and $45 billion of longer-term Treasury securities each month.
Quantitative easing has four primary effects on the economy: higher inflation expectations, currency depreciation, higher equity valuations, and lower real interest rates. QE is similar to normal monetary policy — historically, the adjustment of the federal funds rate — in that it puts downward pressure on nominal and real interest rates. This low interest rate environment helps stimulate business activity by encouraging borrowing and investment.
Broadly speaking, this program has been successful. As Federal Reserve Bank of San Francisco President John Williams put it back in May: “Overall, if we were in a car, you might say we’re motoring along, but well under the speed limit. The fact that we’re cruising at a moderate speed instead of still stuck in the ditch is due in part to the Federal Reserve’s unprecedented efforts to keep interest rates low. We may not be getting there as fast as we’d like, but we’re definitely moving in the right direction.”