ABA Banking Journal - May 2012 - (Page 8)

the economy | by scott brown To QE3 or not to QE3? Impact on rates The markets have reacted to varia- QE pushing down long term rates tions in the perceived odds of addi4.5% $3 tional-asset purchases by the Federal Yield on 10-year Treasuries Reserve (Quantitative Easing 3)— rallying if perceived as more likely 4.0% and selling off if less likely. Fed officials suggest QE3 is on the table, but 3.5% the odds are relatively low. Additional-asset purchases, likely centered on $2 3.0% mortgage-backed securities, would depend on a significant deterioration in the economic outlook. QE3’s goal: 2.5% push long-term interest rates down. But they are already low. Why take 2.0% action now? Federal Reserve Treasury holdings ($ trillions) Investors may be concer ned $1 1.5% about what will happen to longterm interest rates when the Fed 2008 2009 2010 2011 2012 ends Operation Twist in June. ProbSource: Federal Reserve ably very little. Fed officials view Operation Twist a lot like they viewed QE2: It’s the stock of bonds purchased For U.S. investors, the European that matters, not the flow. There was no significant rise in long-term rates crisis is not going away soon, but its when QE2 ended. There is unlikely to be much of a difference when Operaimportance will vary over time. tion Twist ends. However, the bond market will be sensitive to whether the Recoveries from financial crises Fed undertakes QE3—and some small, positive probability of additionaltend to be lengthier than those folasset purchases is now factored in. lowing typical recessions. LongLong-term interest rates normally rise as the economy recovers. Howterm interest rates should rise as ever, long-term interest rates can be viewed as a combination of current and the economy picks up, but not so future short-term interest rates. The current ten-year Treasury yield is conmuch that they threaten recovsistent with the expected path of short-term interest rates. That assumes the ery—and Fed policy can prevent Fed will maintain its current target range for the federal-funds rate into late that (if needed). The housing sector 2014, and then begin to raise rates. However, Fed officials are not commitappears to be in the early stages of a ted entirely to that path. The Fed could raise short-term interest rates sooner rebound, but it’s a long road. A conor later, depending on how the economy evolves. Indeed, back in January, tinuation of relatively low long-term Fed officials were divided on when they thought short-term interest rates interest rates will play an important should begin to rise (three saw the first increase in 2012, three in 2013, five part in the quarters ahead. n in 2014, four in 2015, and two in 2016). Long-term Treasuries also have been influenced by a recurring flight to Scott Brown is chief economist quality. The European Central Bank dodged a near-term banking crisis with at Raymond James & Associlong-term refinancing operations. Still, the Eurozone’s economic problems ates, St. Petersburg, Fla., and a remain. The region needs growth, but austerity measures have further weakmember of the ABA Economic ened peripheral countries’ economies, making financial difficulties worse. Advisory Committee. | ABA BANKING JOURNAL | May 2012 8

Table of Contents for the Digital Edition of ABA Banking Journal - May 2012

ABA Banking Journal - May 2012
Contents
Chairman's View
Editor's Column
The Economy
Bank Notes
Picture This
ABA Community Banking
Pass the Aspirin
Tech Topics
ABA Resources
Compliance Inbox
First Person

ABA Banking Journal - May 2012

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