In my earlier post of today I suggested that the FOMC would probably do the following. Around US $500 billion of new asset purchases or Quantitative Easing and that many had forgotten the existing programme of QE-lite that the Federal Reserve could use to tweak its actions even higher.
The Announcement from the FOMC
The Committee will maintain its existing policy of reinvesting principal payments from its securities holdings. In addition, the Committee intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011, a pace of about $75 billion per month. The Committee will regularly review the pace of its securities purchases and the overall size of the asset-purchase program in light of incoming information and will adjust the program as needed to best foster maximum employment and price stability.
The FOMC also directed the Desk to continue to reinvest principal payments from agency debt and agency mortgage-backed securities into longer-term Treasury securities. Based on current estimates, the Desk expects to reinvest $250 to $300 billion over the same period, though the realized amount of reinvestment will depend on the evolution of actual principal payments.
Taken together, the Desk anticipates conducting $850 to $900 billion of purchases of longer-term Treasury securities through the end of the second quarter. This would result in an average purchase pace of roughly $110 billion per month, representing about $75 billion per month associated with additional purchases and roughly $35 billion per month associated with reinvestment purchases.
Explanation of what has happened
The FOMC has decided to announce a flow of asset purchases and continue with its existing programme of QE-lite. Accordingly it will buy around US $110 billion of US government debt per month if you combine the two in what will now be called QE2.
There was a debate as to the maturity of the debt which will be purchased. The FOMC has confused itself on this issue in the past but it has indicated that it will buy in the 5 to 6 year maturity as an average. This might seem very technical but for those who hold say the 30 year benchmark this does matter because it implies either none of these or very few will be purchased by the Fed and maybe fewer ten-years than the market had factored in. So we could see falls in their prices with the 30 year likely to fall by more.
You could argue that this is US $600 billion or US $900 billion so markets may be confused for a while as this is digested.
I wonder if this announcement will disappoint everyone. It disappoints me as I think it is a policy error. But those in favour of it have gone for higher numbers than this in their attempt to show a likely economic effect from QE2. As I read some more I see this in the announcement and the emphasis is mine.
Longer-term inflation expectations have remained stable, but measures of underlying inflation have trended lower in recent quarters… measures of underlying inflation are somewhat low, relative to levels that the Committee judges to be consistent, over the longer run, with its dual mandate.
There is a clear hint for future policy there and also for inflation prospects. It is not entirely a cunning plan to suggest you are going to try to raise inflation when you are trying to reduce long-term interest rates.Perhaps that is why these are called extraordinary monetary measures!
Over to you Bank of Japan,Bank of England,European Central Bank