Unconventional Monetary Policy and Long-Term Interest Rates
IMF Working Papers, October 22, 2014
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Bibliographic details
- Authors: Tao Wu
- Published: October 22, 2014
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781498317245.001
Overview
- Examines the transmission mechanism through which unconventional monetary policy affects long-term interest rates.
- Constructs a real-time measure summarizing market projections of the magnitude and duration of the Federal Reserve's Large Scale Asset Purchases (LSAP) program.
- Analyzes the determination of term premiums and expectations of future short-term interest rates in a sample spanning more than two decades.
Methodology
- Real-time measure: summarizing market projections of magnitude and duration of the Fed's LSAP program.
- Empirical analysis: determination of term premiums and expectations of future short-term interest rates over a sample spanning more than two decades.
- Model simulations: used to assess implications for policy transparency and exit dynamics.
Key Empirical Findings
- LSAP effectiveness:
- The LSAP has effectively lowered the long-term Treasury bond yields through both "signaling" and "portfolio balance" channels.
- Forward guidance interaction:
- The Fed's "forward guidance" leads to gradual extension of market projections for the duration of the LSAP program, thereby enhancing the LSAP's effect to keep term premiums low.
- Episode heterogeneity:
- Estimation results reveal a diminished effectiveness of the LSAP during QE III.
- Model simulation insights:
- Simulations underscore the importance of policy transparency in minimizing unnecessary market turbulence and ensuring a timely and smooth exit of the unconventional monetary policy stimulus.
Policy Implications and Recommendations
- Policy transparency is critical to:
- Minimize unnecessary market turbulence.
- Ensure a timely and smooth exit from unconventional monetary policy stimulus.
- Consider interactions between LSAPs and forward guidance when designing programs, as forward guidance can extend market projections and amplify LSAP effects on term premiums.
- Recognize potential variation in effectiveness across episodes (e.g., diminished effectiveness during QE III) when assessing future LSAP deployments.