The taper. Isn’t that a giant nocturnal pig? No, you’re probably thinking of the tapir. The taper is a kind of monetary policy. It’s the bland, one-word shorthand for the winding down of the biggest financial intervention in history: the U.S. Federal Reserve’s five-year investment of more than $3 trillion (that’s almost the size of the German economy) in bonds to prop up economic growth after the global free fall of 2008. There’s plenty of controversy about whether buying bonds with money conjured from thin air saved the world or has fueled new bubbles. But there’s been none about the perils the Fed faces in slowing the purchases down. To investors and central banks around the world, the taper is much scarier than pigs in the night.
In December 2013, the Fed’s policy making committee announced that the time had come to taper, but just a bit. It said it would continue with the bond buying program, known as quantitative easing, or QE, but drop its monthly purchases to $75 billion from $85 billion. The program had been started by Fed Chairman Ben S. Bernanke; the task of managing the slowdown has fallen to his successor, Janet Yellen. The Fed emphasized that the taper was only a “modest” one, and that its near-zero interest rates would continue. There had been anxiety over how global markets would react, and in fact currencies and stock markets in emerging markets fell steeply in mid-January, as investors prepared for U.S. interest rates to rise. The Fed stuck with its plan, reducing bond purchases to $65 billion in January. Yellen appeared to be treading a fine line, assuring Congress in February that more work needed to be done to boost U.S. employment while the taper proceeded in “measured steps.”
The idea behind QE is that you don’t need a printing press to add money to an ailing economy. The Fed’s usual method of fighting recessions is to push down the interest rates banks charge each other for overnight loans, which allows banks to offer cheaper loans to businesses. But the Fed cut that rate almost to zero during the financial crisis five years ago, and more was clearly needed. So the Fed began buying bonds in hopes of driving down long-term rates that are usually outside its control. It wasn’t a new idea, but it had never been tried on such a massive scale. Since September 2012, the bank has been snapping up $85 billion a month in Treasuries and mortgage-backed securities. Unlike earlier rounds, the Fed’s purchase plan was described as open-ended, with officials saying it would continue until the labor market “improved substantially.” The idea was that reducing them gradually — that is, tapering them off — would make clear that the central bank would continue to offer support for the economy, just at lower levels. But its problem soon became how to convince markets that a taper was different from an exit.
Almost since the first QE purchase, critics have been warning that it would spur inflation. They’ve been wrong so far. Prices fell in October, putting the 12-month inflation rate at 1 percent, half of the 2 percent the Fed regards as healthy. Others pointed to increases in the stock and housing markets as incipient bubbles fueled by the Fed. There’s also debate about how effective QE has been. Some economists see only a modest effect, coming mostly through lower mortgage rates. A former Fed official who executed the bond purchases, Andrew Huzar, charged that “while there had only been trivial relief for Main Street, the U.S. central bank’s bond purchases had been an absolute coup for Wall Street.” Yellen said that the pain for savers from low interest rates was more than offset by the help the policy has given to the labor market and the economy as a whole. At the same time, she acknowledged that QE “cannot continue forever.” The Fed’s action in December was not the end of the taper, but just the beginning of the end for QE.
The Reference Shelf
- The Fed explains how its monetary-policy committee works.
- The bank’s October 2013 policy statement.
- Josh Zumbrun’s Yellen profile in Bloomberg Markets Magazine.
- Yellen’s June 2012 “optimal control” speech backing QE and her Fed biography.
- Read UC Berkeley Economics Professor Brad DeLong’s presentation on Yellen.
- Ben Bernanke looks back on the Fed’s first 100 years and says how central banking has changed.
- Leading economists rethink post-crash macroeconomic policy at an IMF symposium.