Writing earlier this year on the topic of the Fed’s future balance sheet reductions, Ben Bernanke had occasion to recount his experience from 2013. It was a stressful time for the Fed after they panicked into QE3 (and then QE4) and then almost panicked right out of it. The then-Fed Chairman stressed from his experience the importance of communications as a means to, as he sees it, maintain control.
When, as Fed chair, I indicated in testimony in 2013 that the FOMC was considering slowing asset purchases if economic conditions improved sufficiently, the markets responded with a ‘taper tantrum’ that included sharp increases in volatility and a rise in longer-term rates. Much of this response came through the signaling channel, as some market participants inferred that slower asset purchases also implied a more-rapid increase in short-term interest rates. The taper tantrum calmed after FOMC members pushed back on that incorrect inference, emphasizing that short-term rates would remain low well after asset purchases were phased out.
This is demonstrably false. Interest rates as well as yield curve flattening continued right on through with actual tapering, and then did even more so for nearly two years after the last balance sheet expansion purchases were conducted in October 2014. In other words, the bond market did more of what he calls ‘stimulus’ without it than with it. Therefore, his explanation for how interest rates unfolded in that period just doesn’t hold up.
This post was published at Wall Street Examiner on June 6, 2017.
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