Fed Should Taper Down Treasuries and Taper Up MBS?

Econintersect:  Two economists presented a paper at Jackson Hole last week which is raising quite a controversy.  Arvind Krishnamurthy and Annette Vissing-Jorgensen suggest that the reason for muted response of the economy to the latest QE (quantitative easing) is because the assets purchased were not optimal for economic impact.

Purchase of MBS (mortgage backed securities) have had an economic impact that buying Treasury securities have not.   MBS purchases have been creating a scarcity of securities that directly support a stressed part of the economy (housing) by supporting high prices (low interest rates).

The reason for reduced economic impact from purchase of Treasury securities is because the research finds that

“…QE works largely through narrow channels that affect the prices of purchased assets, with spillovers depending on particulars of the assets and economic conditions. It does not, as the Fed proposes, work through broad channels such as affecting the term premium on all long-term bonds. “

Furthermore, the paper measures response of markets to various announcements (and rumors of announcements) by the Fed and concludes that the effectiveness of QE policy is diminished by lack of transparency.  The Fed attempts to use a lack of certainty as a tool while markets experience increased volatility from less visibility.

The authors say the effects of QE have had far less economic impact than expected by the Fed because the impact of there actions has been narrower than they (the Fed) contend.

Notes:

• The authors use a term for QE which is more “transparent” for the public:  LSAPs (large scale asset purchases).

• A thorough discussion of this paper was written by Global Economic Intersection contributor Peter Nielsen at Central Bank News.

• A Reuters article at Business Insider documented some push back by Fed officials.
  

John Lounsbury

Sources:

• The Ins and Outs of LSAPs (Arvind Krishnamurthy and Annette Vissing-Jorgensen, Jackson Hole Conference, 23 August 2013)

• Fed should specify QE exit conditions-Jackson Hole paper (Central Bank News, 23 August 2013)

• Economists in Jackson Hole Say QE Less Potent Than Fed Believes (Joshua Zumbrun, Bloomberg, 23 August 2013)

• Controversial Jackson Hole Paper Has Current And Former Fed Governors On The Defensive (Pedro Nicolaci da Costa, Reuters, Business Insider, 24 August 2013)