Extending Operation Twist Seen as Having Limited Effects

     As we've seen the market expects the Fed to ease this week and one quite possible move could be extending Operation Twist.

    The reason for this is typical good news/bad news. The good news is uncontroversial, the bad news is because it's not seen as having much effect:

     "Extending Operation Twist is an attractive option for the Federal Reserve at its policy meeting that begins Tuesday because the program is relatively uncontroversial. That’s in part because its impact is limited–and its effects would likely only become more muted if the central bank attempts to string it out, according to economists"

     http://blogs.wsj.com/economics/2012/06/19/effects-of-operation-twist-extension-would-likely-be-muted/

     Yet evidently this is the move that is most likely in the Fed's two day meeting starting today:

     "Under the program known as Operation Twist, the Fed since last fall has been selling $400 billion of short-term bonds and using the funds to buy longer-term securities as part of its effort to lower long-term interest rates and spur borrowing and investment. Continuing the program beyond its June 30 expiration date is the Fed’s most likely move at its two-day policy meeting that wraps up Wednesday, according to a recent Wall Street Journal survey of economists."

    So the least effective move it the most likely... There have been some other ideas floating around the last few days. Janet Yellen herself-second only to Bernanke-mentioned something about keeping interest rates low until 2015. On the face of it why should that help you might wonder, interest rates have been effectively zero for over three years. Again, it's all about expectations of future Fed intent. 

   There was also the idea of vowing to keep low interest rates until unemployment falls beneath 6 or something like that.

   "In addition, the Fed could opt for unconventional means such as promising not to raise rates until the unemployment rate has fallen to a specific level and a nominal GDP level target, according to the report."

    http://diaryofarepublicanhater.blogspot.com/2012/06/markets-up-on-expected-fiscal-easing.html

      Ok-that was a Sumner moment.

     "Unlike starting another major bond-buying program, extending Operation Twist doesn’t significantly change the size of the Fed’s portfolio of assets and isn’t expected to nudge inflation up or down much. That makes the program more palatable to Fed officials concerned that more ambitious steps could risk higher inflation, while also appealing to those who feel the central bank should be doing more to bring down the unemployment rate."

     "But the middle-of-the-road option also offers less firepower to help support the fragile recovery, according to economists."

    “If you believe what ails the economy is not solely dependent on interest rates, as we do, then slightly lower interest rates is only going to make a slight difference,” said Dan Greenhaus, chief global strategist at BTIG, LLC. And if monetary policy can help strengthen the recovery, then continuing Twist is only a “half-baked measure,” he said

    "Some think the Fed might be able to amplify the program’s influence by buying some mortgage-backed securities instead of more long-term bonds, putting downward pressure on mortgage interest rates."

   “Because the housing market has been one of the core sources of weakness, [the Fed] would be trying to target that segment which has been holding back the economy,” said Craig Alexander, chief economist at TD Bank Financial Group. But, as in other areas, “mortgage rates are already so low, it’s hard to see how a little bit lower interest rates would have a significant impact on the market,” he said.

   "The financial markets will likely interpret an extension of Operation Twist as modest support from the central bank. If the Fed keeps snapping up longer-term bonds, that could force investors tired of rock-bottom interest rates into riskier assets like the stock market, said Julia Lynn Coronado, North America chief economist of BNP Paribas. But a more direct way to do that would be to start another large-scale bond-buying program, she said"

     So what about it-QE3 anyone? Uh, not so much.

     "The Fed is “doing backflips to avoid quantitative easing,” said Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ. Extending Operation Twist would buy the central bank some time to see if the economy is poised to weaken further, but might also contribute to the Fed getting diminishing “bang for the buck” with each new attempt to support the recovery, he said. “They risk hurting their credibility here if they came at this easing approach in such an indirect way.”

     This side of their credibility they never seem to worry about.