Fed May Prefer Another Twist to Adding Assets

Federal Reserve policy makers may find another round of Operation Twist is preferable to an outright asset-purchase program should the economy show further signs of weakness or if risks increase. Chairman Ben S. Bernanke on April 25 said he was prepared to take further action to aid the economy if necessary, even as he signaled he didn’t see an immediate need to add stimulus with inflation near the Fed’s goal and unemployment falling. And the minutes from the Fed’s April meeting showed several policy makers said additional action could be necessary if the recovery slips. “If there were scope to do another twist of some type it would be prudent to consider it, especially in the scenario where things are worse and the Fed feels like it needs to move,” said Nathan Sheets, Global Head of International Economics at Citigroup Inc. in New York. Until August, Sheets was the Fed’s top international economist. Economists such as Sheets and Credit Suisse Securities’ Dana Saporta say the Fed’s $400 billion program to extend the maturity of bonds has been just as effective as earlier programs to expand its balance sheet, known as quantitative easing. That may make another version of the maturity extension, which is dubbed Operation Twist and is set to expire in June, preferable because it doesn’t risk the same political backlash. “From a purely economic standpoint it doesn’t matter that much” which option the Fed chooses, Sheets said. “From a public-relations standpoint it might have consequences.” Government Debt With Operation Twist, the Fed has sought to lower borrowing costs through purchases of longer-term government debt. Those purchases were offset by sales of shorter-term debt, keeping the total size of the Fed’s balance sheet unchanged. The sales didn’t raise short-term yields because the Fed has pledged to keep interest rates near zero at least through late 2014. By contrast, the Fed’s two rounds of large-scale asset purchases expanded its balance sheet by a total of $2.3 trillion. The second round, amounting to $600 billion and announced in November 2010, sparked the harshest political backlash against the Fed in three decades. Sarah Palin, the 2008 vice-presidential candidate, called the program a “dangerous experiment in printing $600 billion out of thin air” in a letter to the Wall Street Journal.