Fed Asset Buying and Private Borrowing Rates

TLDR: In this article, the authors reviewed the impact of the Fed's balance sheet policies on private borrowing rates, such as corporate bond yields and mortgage rates, and examined the channels through which they likely have affected longer-term interest rates.

Abstract: With the federal funds rate, the traditional policy tool of the Federal Reserve, effectively reaching zero in late 2008, policymakers have turned to unconventional policy tools to further ease the stance of monetary policy (Williams 2011). These tools are aimed at lowering longer-term interest rates to stimulate economic activity and reduce unemployment. They can be grouped into two categories: communication and balance sheet policies. The Federal Open Market Committee (FOMC) has taken new communication initiatives by providing forward guidance about future policy. In August 2011, it started to explicitly lay out its expectations for the future path of the federal funds rate. The Fed’s unconventional balance sheet policies began in 2009 with a program of large-scale asset purchases (LSAPs) of Treasury and mortgage-backed securities, followed by further purchase programs. These purchases have been designed to put downward pressure on longer-term interest rates. Unconventional monetary policy actions can only be successful in stimulating the economy if they lower the interest rates that matter most for businesses and households, that is, the private borrowing rates that determine the cost of funds for the private sector. This Economic Letter reviews the Fed’s balance sheet programs, providing evidence about their impact on private borrowing rates, such as corporate bond yields and mortgage rates. To help understand the financial-market effects of these programs, the Letter examines the channels through which they likely have affected longer-term interest rates. It also looks at mortgage spreads, which capture the difference between the return to investors on mortgage bonds and mortgage costs to homeowners, focusing on factors that may limit pass-through to primary mortgage rates. Three rounds of asset purchases