Fisher Investments Editorial Staff
Monetary Policy, US Economy

Proceeding Aggressively With Caution

By, 01/27/2009

Story Highlights:

  • Fed Chair Ben Bernanke and other Fed policy makers will meet this week to discuss tactics to strengthen the weakened financial system and economy.
  • Fed policy makers will explore several strategies in their scheduled meetings, including buying longer-term Treasury securities.
  • There are signs the Fed's stance for now is to proceed aggressively, but with caution.

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Shadows cast by last year's financial crisis still blot the economy, and Federal Reserve officials seem determined to dissipate them—perhaps by using more incredible means.

Fed Chair Ben Bernanke and other Fed policy makers will meet this week to discuss tactics to strengthen the weakened financial system and economy. Of note is the proposed plan to purchase longer-term Treasury securities with the aim of pushing up their price and bringing down their yield and, in effect, lowering longer-term borrowing costs. This plan is seen as an alternative to the now grayed-out option of lowering short-term rates to reduce borrowing costs (the rates are effectively at zero)—once again showing the Fed still has ample tools at its disposal.

Buying these securities would further enlarge the Fed's balance sheet (though the Fed can technically expand its balance sheet as much as necessary by printing money). The Fed buying long-term Treasuries isn't unusual—for years, the Fed bought longer-term government debt as necessary to manage reserves in the banking system. But it's always made a conscious effort to keep its actions from influencing natural market prices. Now, this plan would do just that.

Thus far, it appears the Fed has been open to unprecedented and innovative solutions to the problems plaguing our financial system. However, sometimes the risk of unknown and unintended repercussions attached to trying the untested could outweigh potential benefits. In the case of purchasing longer-term debt, there's the risk the Fed's actions will trigger wild swings in prices and long-term interest rates as investors react, distorting the Treasury market. In addition, our Treasury debt's prominence in global government vaults makes manipulating this market a potentially delicate, diplomatic affair.

Buying Treasuries is just one of several strategies Fed policy makers will explore in their scheduled meetings. Others include expanding a program targeting consumer loans, firming the promise to prolong low short-term rates, and setting an inflation target. The Fed will also analyze how the lending programs introduced in the last few months are progressing. There are signs the Fed's stance for now is to proceed aggressively, but with caution—not surprising given it straddles the line between trying to help a potentially deteriorating economy and waiting for the full effects of its previous stimulatory actions. Some Fed officials already seem to shy away from the too-aggressive proposals.

Will our economic supermen uncover the weapons necessary to vanquish our financial and economic adversaries? Will talk run around in circles, or worse, run into dangerous territories? We'll have to stay tuned to find out.

*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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