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Monetary policy in the spotlight Piet Lammens
Monetary policy after zero rate bound is reached
23 september 2013 2
Monetary policy after zero rate bound is reached (part 1): QE
23 september 2013 3
Determination 10-year Treasury yield
ECONOMIC DATA
LIFT – OFF DATE
FORWARD GUIDANCE
SLOPE OF OIS CURVE
TERM PREMIUM
QUANTITATIVE EASING
10-YEAR YIELD
QE pushes term premium sharply lower
23 september 2013 5
Real 10-yr yield (left) versus 10-yr breakeven (right)
23 september 2013 6
US 10-year yield
23 september 2013 7
QE objectives
Objective: lower longer term interest rates Stimulate aggregate demand. Change demand/supply
dynamics FI market
Push investors towards riskier assets (equity/corp) Influence composition portfolio investors
Scarcity channel/duration channel/expectation
channel
23 september 2013 8
QE costs
Inflated balance sheet Exit policy more difficult Fed effectively lost rate setting power
Excess reserves: banks no longer dependent on Fed Remedies are possible, but jury is still out (IOER, reverse repo at FAFR)
Artificially pushing term (risk) premiums
down: recipe for bubbles 23 september 2013 9
QE & Fed communication/evaluation
QE program linked to “substantial” improvement labour market. (1 yr: 8.1% to 7.4%)
Time path Bernanke (June FOMC meeting)
Costs programme increase (bal. sheet) and risks increase (Fed Stein: signs of overheating in some credit markets)
Criticism mounts (impact growth negligible: favours the haves versus the have-nots). 23 september 2013 10
QE end-game
Start tapering at Sept. FOMC meeting
Start?: $15/20B Pace: Dec $20B, March & June14 $20/25B Evenly divided between MBS & Treasuries Data-dependent, but asymmetrical risk Largely discounted? Sell-off May/June?
23 september 2013 11
Determine 10-year Treasury yield
ECONOMIC DATA
LIFT – OFF DATE
FORWARD GUIDANCE
SLOPE OF OIS CURVE
TERM PREMIUM
QUANTITATIVE EASING
10-YEAR YIELD
Monetary policy as zero bound is reached (part 2): Forward guidance
History (Fed- BoE – ECB) Objective: influence curve beyond short term
horizon Promise about future rates (data-dependent/time-
dependent/undefined time period)
Conditional Credibility
Has reaction function CB changed?
23 september 2013 13
Forward Guidance Fed
Fed version March 2009 - August 2011: commitment to keep rates
low for an extended period August 2011: explicit calendar guidance (at least
through mid-2013, later shifted backwards) Dec 2012: tied to unemployment rate & inflation
• Unemployment rate 6.5%- inflation max. 2.5%, expect. anchored thresholds, no triggers
June 2013: QE tapering tied to unemployment rate too
23 september 2013 14
Forward Guidance
Fed tries to convince markets QE tapering has nothing to do with forward guidance FF Possible changes to FG: lower unemployment rate
threshold to 6% and/or floor for inflation (1.5%)
Markets have doubts (see recent curve moves)
ECB & BoE forward guidance lacks credibility
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Fed’s lift-off date
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Fed Funds projections (governors)
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Dec 2014/2015 FF future & increased rate expectations
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VS: Fed funds rate expectations
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Unemployment & participation rate
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Fed projections unemployment rate
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Fed projections GDP growth
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US core inflation
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Time path ST Euribor/Libor3m rates
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Forward Guidance & markets
Shift forward in lift-off date Fed rate change is not completely out of line with Fed guidance
Eco data to remain key Uncertainty high about fundamentals after crisis Quid productivity? Potential growth? Output gap?
Simultaneous shift forward ECB & BoE official rates, even before better eco date
• Signs of normalization after debt crisis to happen faster? • If so, rate hike expectations still too shy
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1994 revisited?
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KBC interest rate forecasts (Aug)
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POLICY RATE 2/sep 3m 6m 12mUS 0.25 0.25 0.25 0.25EMU 0.5 0.5 0.5 0.5
10 YR YIELD 2/sep 3m 6m 12mUS 2.82 2.8 2.8 3.3GE 1.9 1.8 1.8 2.1
10-year Inflation swaps
23 september 2013 28
Determining 10-year US T-yield
ECONOMIC DATA
LIFT – OFF DATE
FORWARD GUIDANCE
SLOPE OF OIS CURVE
TERM PREMIUM
QUANTITATIVE EASING
10-YEAR YIELD
ECB policy
No pre-commitment was guiding principle Inflation objective sacro-saint 2% was the unofficial bottom of rates
Now: refi-rate: 0.5% LTRO loans FA/FF: liquidity enhancing
ECB lost power over money market rate Eonia (& euribor) drop below refi-rate
23 september 2013 30
ECB historical July decision
New tool: Forward guidance rates will remain ‘at present or lower levels for an extended period of time’ Easing bias: 50 bps is not floor All rates are envisaged: keeps open possibility of neg. deposit rate ECB wants to influence rates further out on the MM curve End of “we never precommit” mantra
“Extended period” should be seen in terms eco data, not calendar dates, but… It suggests no tightening until at least end 2014/mid 2015 Attempt to dissociate ECB policy from Fed policy & European yields from US
ones (success poor in 1994) EMU economy too weak to withstand higher yields Is commitment credible or sounds it hollow?
Fed leads the way in good & bad days
23 september 2013 32
EMU: refi-rate expectations (euribor 3m)
23 september 2013 33
German 10-year yields more upside?
23 september 2013 34
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