Evaluation of large-scale asset purchases

• Deposits with Federal Reserve are essentially equivalent to 3-month treasury bills

• Pay about the same interest• Are both short-term liabilities of the U.S.

government• Nothing special about Fed deposits now

that they are far beyond what banks need to meet requirements or have adequate liquidity

• Hamilton and Wu (2012)– historically changes in maturity composition of U.S. Treasury debt predicted very modest changes in yield on short-term versus long-term bonds.

• Used this correlation to predict what would happen if Fed swapped its entire holdings of short-term Treasuries in Dec 2006 ($400 B) for the very longest-term Treasury debt they could buy.

Hamilton-Wu estimated effects in 2006 (blue) and at the zero lower bound (red)

Horizontal axis: maturity (in weeks)Vertical axis: change in yield (in percentage points)

Source: Williams (2013)

Event study methodology

• Nov 25, 2008: LSAP announced• Dec 1, 2008: Bernanke: “could purchase

longer-term Treasury… in substantial quantities”

• Dec 16, 2008: FOMC “stands ready to expand its purchases of agency debt and mortgage-backed securities”

• Mar 18, 2009: Announced new purchases of MBS and agency debt

10-year yield fell 170 bp Nov 3 - Dec 31

fell 61 bp on 3 indicated dates

Oil price declined 30% Nov 3 - Dec 31

fell 19% on 3 indicated dates

9:00 10:12 11:24 12:36 13:48 15:00 16:122.25

2.3

2.35

2.4

2.45

2.5

2.55

2.6

Dec 16, 2008: 10-year Treasury (TNX)

9:00 10:12 11:24 12:36 13:48 15:00 16:1234

34.5

35

35.5

36

36.5

37

37.5

38

38.5

Dec 16, 2008: crude oil price (USO)

9:00 10:12 11:24 12:36 13:48 15:00 16:12850

860

870

880

890

900

910

920

Dec 16, 2008: S&P500 (SPX)

9:00 10:12 11:24 12:36 13:48 15:00 16:122.4

2.5

2.6

2.7

2.8

2.9

3

3.1

Mar 18, 2009: 10-year Treasury (TNX)

9:00 10:12 11:24 12:36 13:48 15:00 16:1227

27.5

28

28.5

29

29.5

30

Mar 18, 2009: crude oil price (USO)

9:00 10:12 11:24 12:36 13:48 15:00 16:12740

750

760

770

780

790

800

810

Mar 18, 2009: S&P500 (SPX)

11

But longer-term evidence of effects is not clear

12

• LSAP so far has been very profitable for the Fed

• Borrow at 0.25% (interest on Federal Reserve deposits) lend at 2% (interest on 10-year Treasury bond)

• But if interest rates rise, value of 10-year Treasury bonds will rise, Fed would sell at a loss

• Would negative Fed net worth undermine confidence in dollar and the Fed?

Greenlaw, et. al. (Feb 2013)• Examined what would happen to Fed’s

portfolio under Blue Chip consensus forecast as of Feb 2013 for interest rates and under assumption Fed started to sell its long-term holdings in 2015

• Found Fed would have operating loss 2017-2019

Actual 10-year yield, CBO projections in 2013 and 2015, and implied path from current yield curve

• Actual 10-year yields have fallen, not risen since 2013.

• The Fed bought even more long-term assets and now plans not to sell.

• The Fed is making even bigger profits.