WASHINGTON — Anticipation is high that the Federal Reserve will announce some new step today to try to rejuvenate the U.S. economy and boost investor confidence.
Just what that might be is unclear.
One option would be an effort to drive long-term interest rates even lower to try to spur borrowing and spending.
A more modest step would be for the Fed to stress its readiness to do more should the economy weaken further.
Or the Fed might do or promise nothing further – not for now, anyway.
Chairman Ben Bernanke and other Fed officials have acknowledged the slumping U.S. economy and the threats posed by Europe’s debt crisis. At the least, analysts expect the Fed to say or unveil something to signal that it’s willing to provide further support.
The Fed has kept its key policy lever, the federal funds rate, at a record low near zero since December 2008. And it’s said it plans to keep it there until at least late 2014.
Given that it can’t cut short-term rates any further, the Fed has tried to further reduce long-term rates by buying more than $2 trillion in Treasury bonds and mortgage-backed securities. The idea is for those lower rates to help boost spending, hiring and economic growth.
Bernanke has sent no clear signal of the Fed’s next move. He has said Fed officials need to see whether the economy can grow fast enough to accelerate hiring.
Here’s a look at the Fed’s options, in order of their perceived likelihood:
– EXTEND OPERATION TWIST
Under Operation Twist, the Fed has been gradually selling $400 billion in short-term Treasury securities since September and using the proceeds to buy longer-term Treasurys.
In doing so, the Fed seeks to “twist” long-term rates lower relative to short-term rates. Operation Twist has the advantage of potentially lowering long-term rates without expanding the Fed’s record-high portfolio.
When the Fed expands its portfolio of investments, critics argue that it raises the risk of high inflation later.
When the Fed expands its portfolio by buying more bonds, it’s called quantitative easing, or QE. It’s already engaged in two rounds of QE totaling more than $2 trillion. A possible third round has been dubbed QEIII.
This would be the most dramatic move the Fed could make to try to further drive down long-term rates. It would also trigger the most criticism because it would expand the Fed’s holdings by billions of dollars.
– STRONGER LANGUAGE
Under this option, the Fed would change the wording of the statement it issues after each meeting. It could do so in two ways. It could be more definitive in pledging to help should the economy weaken further and perhaps spell out what those steps could be.
Or it could push back the timetable when it expects to begin raising short-term rates beyond its current target of late-2014, until some time in 2015.
– DO NOTHING
This would represent a continuation of the Fed’s decisions at its policy meetings in March and April. After each of those meetings, it kept its policy-making on hold.
Bernanke’s testimony to Congress last month might suggest that the economic signals remain too murky for the Fed to act now.
A no-change meeting would risk disappointing investors and triggering a sell-off on Wall Street. That, in turn, could further dampen consumer and business confidence.
That isn’t the outcome the Fed would like to see.