Four options remain for Federal Reserve Chairman Ben Bernanke to revive the U.S. economy, because worry about a recession in the United States is dampening the mood of the markets.
The speeches of U.S. Federal Reserve Chairman Ben Bernanke always carry weight in the markets — still, according to the opinions of capital market experts, Bernanke’s speech today is more important than ever for the future of stock and bond markets, as well as the U.S. economy.
Most of the recent data circulating since the end of July has reinforced concerns about a renewed recession. Along with the tumbling stock markets, the pessimism can also be detected in the bond market: Within just one month, the yield on 10-year U.S. government bonds sank from about 3 percent to roughly 2.2 percent — an exceptional drop.
U.S. Economy Facing Crash
Therefore, many have placed their hopes in the chief of the U.S. Federal Reserve, Ben Bernanke. He could, optimists argue, announce new measures to save the U.S. economy from a crash at a meeting today of central bankers in Jackson Hole, Wyoming. At last year’s meeting, he prepared the markets for the second program to buy up bonds. Between November 2010 and June 2011 the Federal Reserve had purchased an additional $600 billion in government bonds.
A Look at His Options:
Third Round of Buying Up Securities
Bernanke could simply announce renewed bond buybacks to keep the bond interest low, and thereby make it easier for businesses to borrow money and urge investors to buy riskier type of assets like stocks — which in turn would have the desired investment capital returns through rising stock prices. Economists, however, are trying to dampen the expectations of investors, so now a third round of monetary policy easement (Quantitative Easing 3, or QE3) is on the agenda. Incidentally, concrete decisions are to be expected first at the regular meeting of the Federal Reserve. “Those looking for an outright commitment to QE3 are likely to be disappointed,” said economist Aneta Markowska of Société Générale in New York. The Fed has been unable to lower the prime rate since 2008, because since then it has been at nearly 0 percent. But there are other possibilities to stabilize the economy.
Redeployment of Already Held Securities
Through the first two buyback programs, the Fed holds securities worth about $2.6 trillion on its balance sheet. The monetary watchdogs are currently holding these assets constant in order to prevent the possibility that interest could rise too sharply. The sums from expiring bonds are consequently always reinvested in new securities. A redeployment would have the goal of extending the term of the older bonds. In doing so, the Fed would invest the return flow in new securities with terms of 10 to 30 years, which would put pressure on long-term interest.
This option would be more easily accepted by opponents than additional purchases. Zach Pandl, an economist at Goldman Sachs, thinks it probable that Bernanke will at least mention this option — and this could have an effect on the bond market in a manner similar to the second round of bond purchases (QE2): It would be anticipated before the Federal Reserve becomes active at all. Admittedly, the term extension would make the later phase out of the relaxed monetary policy difficult: Instead of waiting until securities expire on their own, the Fed would be more likely forced to sell the bonds.
Total Assets Promise
At the beginning of August, the Fed pledged to hold the prime rate near 0 percent until the middle of 2013. The currency watchdogs could now release a similar promise for their bond holdings — for example, to hold their total assets constant until the middle of 2013.
Interest Rate Cuts for Bank Deposits
Since the end of 2008, the Fed has paid banks the interest on the deposits of their reserves in the Federal Reserve. This measure should prevent the interest rate on the interbank market from slipping to 0 percent, which would put money market funds in difficulties that depend on interest-paying investments. Sinking the already very low rate of 0.25 percent or even a negative interest rate — virtually an account fee — could induce banks to park less liquidity with the Fed. This, in turn, could threaten U.S. money market funds.