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Rising Bond Yields Show Bernanke QE Converges With Growth

Federal Reserve Chairman Ben S. Bernanke
Federal Reserve Chairman Ben S. Bernanke estimated that the Fed’s first round of securities purchases, announced in November 2008, reduced the yield on 10-year Treasuries by between 40 basis points and 110 basis points. Photographer: Andrew Harrer/Bloomberg

Jan. 30 (Bloomberg) -- Since Federal Reserve Chairman Ben S. Bernanke in September began a third round of asset purchases aimed at lowering interest rates and spurring growth, bond yields have climbed. The trend may signal that his program is working.

Yields on the benchmark 10-year Treasury note rose to 1.99 percent at 4:21 p.m. in New York today from 1.72 percent since the Fed announced new bond buying on Sept. 13, Bloomberg Bond Trader prices show. Those on bonds backed by home loans have increased to 2.01 percent as of yesterday from 1.26 percent, according to the Bank of America Merrill Lynch U.S. Mortgage-Backed Securities Index.

Interest rates are climbing as asset purchases help bolster confidence in economic growth, said James Hamilton, an economist whose research on Fed bond buying has been cited by Bernanke. U.S. stocks have advanced 2.9 percent since Sept. 13 as the outlook has improved, while yields on junk bonds have shrunk to within 4.78 percentage points of Treasuries as of yesterday from 5.5 percentage points.

“As the economy picks up, we’d expect that would be a force putting upward pressure on yields regardless of what the Fed is doing on the bond supply side,” said Hamilton, a professor at the University of California, San Diego, and former visiting scholar at Fed district banks including Atlanta and New York. “That’s what’s happening, and the Fed should be happy to see it.”

FOMC Decision

The Federal Open Market Committee today decided to keep purchasing $85 billion of securities each month after the economy paused because of temporary forces, including bad weather. The Fed hasn’t set a limit on the size or duration of its purchases while pushing its total assets beyond a record $3 trillion.

“Growth in economic activity paused in recent months in large part because of weather-related disruptions and other transitory factors,” the FOMC said today at the conclusion of a two-day meeting in Washington. “The committee expects that, with appropriate policy accommodation, economic growth will proceed at a moderate pace and the unemployment rate will gradually decline toward levels the Committee judges consistent with its dual mandate.”

The third round of so-called quantitative easing, or QE, has probably held mortgage rates 20 basis points to 40 basis points lower than they otherwise would be, said Jonathan Wright, former assistant director of the Fed’s Division of Monetary Affairs. A basis point is 0.01 percentage point. Signs of economic strength have obscured those benefits by nudging interest rates higher, said Wright, an economics professor at Johns Hopkins University in Baltimore.

‘Marginally Improves’

“QE marginally improves the economy, which drives rates back up,” he said, adding that the current round of asset purchases lacks the clout of the prior two programs.

“The reactions to recent QE announcements suggest that it does still have effects, though not anything as big as the pop you got” from the first large-scale asset program, he said.

The Standard & Poor’s 500 Index, the benchmark for U.S. equities, fell 0.4 percent to 1,501.91 at 4 p.m. in New York as the Fed maintained its stimulus and a report showed the economy unexpectedly shrank during the fourth quarter.

Gross domestic product contracted at a 0.1 percent annual rate, the worst performance since the second quarter of 2009, when the economy was still in a recession, according to Commerce Department data. A decline in government outlays and a smaller gain in stockpiles subtracted a combined 2.6 percentage points from growth. The median forecast of 83 economists surveyed by Bloomberg called for a 1.1 percent gain in GDP.

First Round

Bernanke estimated that the Fed’s first round of securities purchases, announced in November 2008, reduced the yield on 10-year Treasuries by between 40 basis points and 110 basis points. The Fed bought a total of $1.7 trillion in mortgage bonds and Treasury securities. The second round, totaling $600 billion and announced in November 2010, cut yields an additional 15 basis points to 45 basis points, Bernanke said in a speech in August at a Fed conference in Jackson Hole, Wyoming.

“So far, we think we are getting some effect, it is kind of early,” Bernanke said Jan. 14 at the University of Michigan’s Gerald R. Ford School of Public Policy in Ann Arbor, referring to the current round of bond buying. “We are going to continue to assess how effective” the program is “because it is possible that as you move through time and the situation changes that the impact of these tools could vary.”

Asset Purchases

Rising stock prices and inflation expectations suggest the Fed’s asset purchases are fueling the expansion, said Mark Gertler, a New York University economist and research collaborator with Bernanke. The Fed chairman said last month bond buying will continue until the job market shows “substantial” gains. Unemployment in December was 7.8 percent.

“Given the uncertainty about the economy when the Fed launched QE3, my guess is the Fed is pleased with the outcome thus far,” Gertler said. “A stronger economy does point to more jobs.”

Expectations of inflation as measured by the Fed’s five-year five-year forward breakeven rate, which gauges the predicted pace of consumer price increases from 2018 to 2023, rose to 2.88 percent on Jan. 25 from 2.63 after the FOMC meeting in September. The Fed targets inflation of 2 percent.

Wealth Effect

Rising stock prices may boost consumption through a so-called wealth effect, said Paul Dales, a senior U.S. economist at Capital Economics Ltd. in London. Meanwhile, increasing inflation expectations will probably stoke borrowing by reducing the “implied real interest rates,” or expected interest rates after accounting for inflation, he said.

The effectiveness of asset purchases is at the core of an FOMC debate over how long to continue the program. The minutes from the FOMC’s Dec. 11-12 meeting show participants who provided forecasts were “approximately evenly divided” between those who said it would be appropriate to end the purchases around mid-2013 and those who said they should continue beyond that date.

A number of policy makers are concerned the magnitude of the Fed’s balance sheet could impair its efforts to tighten policy when necessary, according to the minutes.

“We have a cost-benefit type of approach” in weighing whether to push on with asset purchases, Bernanke said in Ann Arbor.

George Dissent

Not all of Bernanke’s colleagues believe quantitative easing is worth the risks. Kansas City Fed President Esther George dissented from today’s statement, saying she was concerned that “the continued high level of monetary accommodation increases the risks of future economic and financial imbalances and, over time, could cause an increase in long-term inflation expectations.”

George gained a policy vote this year as part of an annual rotation among Fed regional bank presidents on the FOMC. She said in a Jan. 10 speech she is concerned record stimulus may cause imbalances in financial markets, citing how prices of bonds, agricultural land and high-yield and leveraged loans are near historic highs.

The central bank repeated that the purchases will continue “if the outlook for the labor market does not improve substantially,” and also left unchanged its statement that it planned to hold its target interest rate near zero as long as unemployment remains above 6.5 percent and inflation remains no more than 2.5 percent.

Housing Market

The housing market is recovering as the Fed presses on with record easing. Combined sales of new and previously owned properties last year rose 9.9 percent, according to data compiled by Bloomberg, for the biggest annual gain since 1998 and an indication residential real estate is helping drive growth.

“Household spending and business fixed investment advanced, and the housing sector has shown further improvement,” the FOMC said in its statement today.

Home prices in 20 U.S. cities rose in the 12 months to November by the most in more than six years. The S&P/Case-Shiller index of property values increased 5.5 percent from November 2011, the biggest year-over-year gain since August 2006, according to data released yesterday.

“The housing market began a steady rebound” last year, Chief Executive Officer John G. Stumpf of Wells Fargo & Co., the largest U.S. home lender, said in a conference call with analysts and investors on Jan. 11. “There is no doubt that a corner was turned, which is a real positive for our economy.”

To contact the reporters on this story: Steve Matthews in New York at; Caroline Salas Gage in New York at

To contact the editor responsible for this story: Christopher Wellisz at

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