Skip to main content

The Globe and Mail

Anemic U.S. economy spurs the Fed to ‘Twist' again

Federal Reserve Board Chairman Ben Bernanke testifies on Capitol Hill in Washington, Thursday, June 7, 2012, before the Joint Economic Committee about the health of nation's economy, the slumping recovery, and the European debt crisis.

J. Scott Applewhite/AP

The U.S. Federal Reserve, bracing for an economic downturn this summer, sent a signal on Wednesday that it is prepared to do more to ease America's stubborn unemployment problem.

The central bank's policy committee cut an economic outlook that was less than two months old, predicting the U.S. economy will grow between 1.9 per cent and 2.4 per cent this year. Hiring, factory production, retail sales and consumer confidence all have declined since the Federal Open Market Committee (FOMC) last met in April, when officials thought the economy had an outside shot of growing 3 per cent in 2012.

That forecast is now in the dustbin, and the weak economy is forcing Fed chairman Ben Bernanke to act.

Story continues below advertisement

Policy makers extended a program that Wall Street traders call "Operation Twist," which had been scheduled to conclude at the end of June. Now, the central bank will sell $267-billion (U.S.) of shorter-dated Treasury securities by the end of 2012. As it did previously, the Fed will use the proceeds to buy securities that mature in six years or later. That will put downward pressure on longer-term interest rates – and, the Fed hopes, will encourage consumers to buy homes and cars, and businesses to borrow and expand.

Mr. Bernanke also made clear that he is ready to do more if necessary. The Fed on Wednesday gave a gloomier picture of the labour market, forecasting the unemployment rate will be little changed this year from the current level of 8.2 per cent, which is a long way from the central bank's preferred rate of about 5.5 per cent.

If that target becomes even farther out of reach, policy makers likely will resort to more powerful weapons when they next meet on July 31 and Aug. 1.

"We still do have considerable scope to do more and we are prepared to do more," Mr. Bernanke said at a press conference. "If we are not seeing sustained improvement in the labour market, that will require additional action."

The Fed's two newest officials, Jerome Powell and Jeremy Stein, attended their first policy deliberations Wednesday, expanding the FOMC to its maximum of 12 participants for the first time since 2005. (The seven regional Fed presidents who lack votes on policy decisions still attend meetings and contribute to the outlook.)

Policy makers retained their conditional pledge to leave interest rates extremely low until at least the end of 2014, and left the benchmark borrowing rate near zero, where it's been since December, 2008.

Stock markets struggled to stay in positive territory Wednesday, an indication that some traders were disappointed that the Fed is holding back its biggest gun, namely quantitative easing, a policy under which the central bank creates hundreds of billions of dollars to buy Treasuries and other financial assets.

Story continues below advertisement

The Fed lowered its inflation estimate to 1.2 per cent to 1.7 per cent, well below the target rate of 2 per cent, suggesting policy makers could have made a bigger splash without fear of sparking a rapid increase in prices.

Mr. Bernanke pushed back against the notion that the Fed should have done more, calling the twist "substantive."

He also indicated that policy makers wanted more time to assess economic conditions.

European leaders are signalling that they are finally prepared to make the policy changes necessary to resolve their debt crisis at a summit scheduled for next week. It's also possible that the labour market isn't as bad as it looks. The winter was unseasonably warm, allowing builders to start work that otherwise would have begun in the spring. Just as weather effects partially explain the strength in hiring earlier this year, seasonal adjustments could be overstating the weakness now.

The other factor blocking more aggressive policy is the resistance to further action on the policy committee. Jeffrey Lacker, the head of the Richmond Fed, voted against extending the twist, which the Fed calls a Maturity Extension Program. Six of the 19 participants said they think interest rates will rise before the end of 2013, a year ahead of the Fed's official guidance.

"Each of these nonstandard programs has risks attached," Mr. Bernanke said, referring to the Fed's short history with attempting to control interest rates by using massive asset purchases. "I don't think they should be launched lightly," he said. "There should be some conviction they are needed."

Story continues below advertisement

Report an error Licensing Options
About the Author
Senior fellow at the Centre for International Governance Innovation

Kevin Carmichael is a senior fellow at the Centre for International Governance Innovation, based in Mumbai.Previously, he was Report on Business's correspondent in Washington. He has covered finance and economics for a decade, mostly as a reporter with Bloomberg News in Ottawa and Washington. A native of New Brunswick's Upper St. More


The Globe invites you to share your views. Please stay on topic and be respectful to everyone. For more information on our commenting policies and how our community-based moderation works, please read our Community Guidelines and our Terms and Conditions.

We’ve made some technical updates to our commenting software. If you are experiencing any issues posting comments, simply log out and log back in.

Discussion loading… ✨