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Fed Says QE Reduced Yields on More Than Targeted Debt

The Federal Reserve’s asset purchases reduced yields on securities beyond the government and mortgage bonds targeted by the central bank as it pumped record stimulus into the economy, the San Francisco Fed said.

Policy makers’ announcements of the purchases pushed down yields for corporate bonds and primary mortgage rates, Michael Bauer, an economist at the district bank, said in a paper released today. After the Fed’s announcement of the first round of so-called quantitative easing in November 2008, 10-year Treasury yields fell by 1 percentage point, an investment-grade corporate bond yield index declined by 0.89 percentage point and the yield on 30-year mortgage-backed securities fell by 0.93 percentage point, Bauer said in the paper.

Since the onset of the 2008 financial crisis, the U.S. central bank has held the benchmark interest rates near zero and expanded its balance sheet by $2.3 trillion. Several Fed policy makers said flagging momentum in economic growth or increased risks to the outlook may warrant additional action, minutes from the April 24-25 meeting showed.

“The programs have worked similarly to conventional monetary policy, which also uses interest rate changes to stimulate or slow the economy,” Bauer said. “Unconventional monetary policy actions can only be successful in stimulating the economy if they lower the interest rates that matter most for businesses and households, that is, the private borrowing rates that determine the cost of funds for the private sector.”

The U.S. central bank announced its first round of asset purchases in November 2008 to unfreeze credit markets. The program that became known as QE1 eventually totaled $1.75 trillion in Treasuries, mortgage bonds and federal agency debt.

Extend the Maturity

Since then, the Fed has also announced an additional $600 billion in Treasury purchases and a program to extend the maturity of the government debt on its balance sheet to support the economic recovery.

The latter programs, known as QE2 and Operation Twist, were less effective in reducing borrowing rates because bond markets had already normalized, short-term interest rate expectations were low and the programs were smaller in scale, Bauer said.

The Fed’s asset purchases have been less successful in reducing mortgage rates for homeowners than in cutting the yield on mortgage bonds, Bauer said.

“Industry consolidation may have reduced competitive pressures among mortgage originators,” he said. “This suggests that the weaker link between MBS yields and primary mortgages may persist for some time.”

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