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Fed stimulus: Fed vows to continue bond-buying stimulus
The central bank is also set to update its economic forecasts.
Here’s the breakdown of what the Fed may do:
How can the Fed cut long-term rates?
The Fed is now purchasing $80 billion in Treasury bonds and $40 billion in mortgage-backed securities each month, putting downward pressure on long-term interest rates, such as for mortgages and corporate bonds.
The average maturity of the securities it’s buying is 7.4 years, according to Oxford Economics. Some economists expect Fed officials to buy the same amount of bonds but shift the mix toward those with longer maturities. That would inject more stimulus into the economy by further pushing down rates for mortgages, corporate bonds and other types of loans.
Why shift bond purchases to cut rates?
COVID-19 is spiking across the country, with cases, hospitalizations and deaths reaching new records. That has led to new constraints on businesses, particularly in California and the Midwest. Job growth slowed sharply in November and initial jobless claims, a rough measure of layoffs, jumped sharply to 947,000 the week ending December 5.
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Goldman Sachs believes the Fed will say it will keep buying bonds at the current pace until the labor market is “on track” to reach full employment and inflation is “on track” to reach 2%. That’s similar to the Fed’s criteria for raising its key short-term rate but not as rigid. It likely would mean the Fed starts tapering down the bond purchases in 2023, about a year before raising its short-term rate, Bostjancic says.
Why a timetable for bond purchases?
Bostjancic says Fed officials likely want to avoid another “taper tantrum” – a 2013 spike in Treasury yields when Fed officials unexpectedly signaled they would start winding down bond purchases following the Great Recession of 2007-09.
Also, investors now expect the Fed to begin tapering the bond purchases in late 2021 or early 2022. By signaling a later start, it could spur more borrowing and cheer Wall Street, Bostjancic says.
Alexander, though, says the Fed may wait until the outlook is clearer before refining its guidance.
How about Fed’s economic forecasts?
In September, the Fed predicted the economy would contract 3.7% this year and unemployment would end the year at 7.6%. But the economy has recovered from the pandemic more swiftly than expected, with unemployment already at 6.7%. Goldman Sachs expects the Fed to revise its forecast to a 2.5% contraction this year and unemployment of 6.8% at year-end.