The statement released following the two day meeting of the Federal Open Market Committee (FOMC), the Federal Reserve’s main monetary policy setting body, coupled with Ben Bernanke’s post-meeting press conference unveiled the much anticipated third round of quantitative easing, or QE3. As expected, the FOMC also extended the forward guidance, announcing that the Fed funds target rate would remain at its current 0-25 basis point range through mid-2015, pushed back from the prior late 2014.
The surprises in today’s news were threefold: the new asset purchases will be MBS, instead of Treasury securities; the purchases will be open-ended rather than a fixed amount; and the duration of the purchases will be determined by the pace of labor market recovery, in particular, until there is sustained improvement in the labor market, both adding jobs and lowering the unemployment rate.
QE3 will involve the additional purchase of $40 billion in agency MBS per month. This combined with the maturity extension program (”operation twist”) and the current principal payment reinvestment practice will increase the Fed’s holdings of longer-term securities by $85 billion per month through the end of the year, reducing long term interest rates and providing support to mortgage markets.
After the end of the year, MBS purchases, along with additional asset purchases, could continue until substantial and sustained improvement in the labor market is achieved. At his press conference Bernanke declined to identify a single or set of metrics as the trigger to end QE3 but offered that no single month’s data point would be the test. He went on to say the accommodative stance of monetary policy should remain in place until a robust economic recovery has gained momentum.
The switch from the fixed amount purchases of QE1 and QE2 to the open-ended nature of QE3 with substantial improvement in the labor market as the determining factor for its duration was unexpected by Fed watchers and represents an all or nothing bet by the Fed to finally turbocharge the economic recovery with monetary policy.