lecture 8 - quantitative easing - hec

Quantitative Easing

Macro-Economic Policy

University of Lausanne

Fall 2013

Macro-Economic Policy Quantitative Easing 1 / 31

What is Quantitative Easing?

Originally used to mean continued conventional open marketoperations at zero nominal bound.Now used to mean unconventional OMO at the ZLB, such as buyinglong-term government bonds, MBS, or other assets.

I Also known as Credit Easing


Motivation - US Interest Rates


Balance Sheet of the Federal Reserve


Quantitative versus Credit Easing


Effects on Asset Returns

Time premiumI lower medium-term real interest rates

Inflation ExpectationsI Commitment mechanism for low nominal rates, future inflation


Effects on Asset Returns

Cash Flow RiskI DefaultI Pre-payment

Market RiskI LiquidityI Duration and pre-payment clientele effects

Risk premiaI LiquidityI SafetyI DefaultI Pre-payment


Channels (Two period example)

rLT = iST

+E [iST ] (Signaling)

+Term premium (safety, default, liquidity, pre-payment)

�E [⇡] (Inflation)


Event Study Analysis

Krishnamurthy and Vissing-Jorgensen (2011)I Look at intra-day dataI Reaction of asset prices around statements by FOMCI Was there an effect?I Which were the main channels?


Rounds of Quantitative Easing

QE1 (late 2008 and 2009)I Purchase on long-term treasuries and mortgage-backed securities

QE2 (late 2010 and beyond)I Exclusive purchase of long-term treasuries ($ 85 Billion per month)

QE3 (summer 2013 and beyond)I Exclusive purchase of mortgage backed securities ( $40 Billion per

month)


Event Study Analysis - QE1

25/11/2008 - Fed announces intention to purchase $500B of Agencymortgage-backed securities and $100B of Agency debt.01/12/2008 - Speech by Bernanke16/12/2008 - FOMC Statement29/01/2009 - FOMC Statement: Fed may buy more agency debt,MBS, and Treasuries18/03/2009 - FOMC Statement: Increase agency debt purchases by$200B, agency MBS $1.25T, $300B long-term treasuries


Event Study Analysis - QE2

10/08/2010 - FOMC Statement: The Committee announces that itwill keep constant the Federal Reserve’s holdings of securities at theircurrent level by reinvesting principal payments from agency debt andagency mortgage-backed securities in longer-term Treasury securities21/09/2010 - FOMC Statement: The committee maintains itsexisting policy of reinvesting principal payments and will monitordevelopments, it is prepared to provide additional accommodation ifneeded to support the economic recovery.03/11/2010 - Fed will continue its existing policy and purchase $600Bof additional treasury securities. This was widely expected and so hadlittle effect.


QE1: 10-year Treasury Yields


QE2: 10-year Treasury Yields


How to identify the channels in action?

Study the effects of quantitative easing on securities that highlight aparticular channel

I Expected future short-term rates (signaling) - Federal Funds futurescontracts

I Default risk - Credit Default Swap SpreadsI Expected Inflation - Yield on nominal safe bonds minus TIPS yield (use

a nominal bond with a similar safety premium, e.g. CDS-adjusted Aaa)

Other channels are more complexI Duration risk - Differences in announcement effect between comparable

long and short-term assetsF However, safety channel confounds movements for treasuriesF Pre-payment risk channel confounds movements for MBSF Liquidity channel confounds movements for safe corporate bonds.F Use low grade corporate bonds! (deductive argument)


How to identify the channels in action?

Pre-payment risk in MBS - Difference between fall in MBS yields andthe signaling effect (requires that the other channels do not affectMBS)

I Critique: Couldn’t this just be like saying that the duration risk channelonly applies to MBS?...

Safety channel - Agency bond yields: QE reduces supply, but does notaffect their liquidity, or default risk.Liquidity channel - Yield spread between Treasury and agency bonds:the spread should shrink.


QE1 Channels

Present: Signaling, pre-payment risk, default risk, safety, liquidity,inflationAbsent: Duration risk


QE2 Channels

Absent: pre-payment risk, default risk, liquidity, duration

Present: Signaling, safety, inflation

Since QE2 did not target MBS, seems reasonable the pre-payment riskchannel would be absent.What happened to the liquidity and default risk channels?

I Perhaps QE2 was taken as a negative signal for the economy -increases default risk premium

I No purchase of lower-grade bonds means there was no direct defaultrisk effect.

I Liquidity premia happened to be low in later 2010 - so removingliquidity had a negligible effect.


Heterogeneous Effects on the Mortgage Market

Fuster Willen (2010) - Some facts about the effects of the FederalReserve’s mortgage market investments

I Interest rates on mortgages decreasedI Refinancing increased, but not new mortgages or searchesI Borrowers with high credit scores benefitted much more from the

intervention.F Perhaps this is a good thing!

I Did credit easing boost consumption?F Unlikely, since most of the benefits went to financially unconstrained

households

I Did credit easing increase house prices?F No evidence of an increase in households considering a purchase,

increasing loan amounts, or shifts in the composition of buyers.


Fuster Willen (2010) Tables


Fuster Willen (2010) Figures


Policy Critiques

Andrew Huszar (Nov 11, 2013 WSJ): Confessions of a QuantitativeEaser

I Quantitative easing is the greatest backdoor Wall Street bailout of alltime.

I Banks enjoyed huge capital gains on their securities, brokers collectedfees for the trades

I Banks did not issue more loans in response to quantitative easingI PIMCO analyst: $4Trillion investment for $40Billion return (0.25% of

GDP, 0.0001% return).


A Third Way

Helicopter drops - direct delivery of cash into people’s handsNothing could be better to stimulate demand

I consumers feel relatively rich, so they spend moreI credit-constrained entrepreneurs can invest moreI demand for loans falls, interest rates fall.

Gains are spread around up-front, more politically popular.I The political attractiveness of this option is a major drawback!

Effective commitment to inflation by the central bankHard to get out. Once the money is in the system, how do you get itout?

I Implies major losses for the Fed. The treasury likes to receive adividend... political backlash.

What do you think?


Summary

Two dimensions to unconventional monetary policy: quantitative andcredit easingPolicies succeeded in decreasing long-term interest rates

I which ones depends on which policy

Could think of other options...Should we be so concerned about ex-post policy making?


lecture 8 - quantitative easing - hec

Documents