In a note out tonight, BTIG’s Dan Greenhaus looks ahead to next Tuesday’s big Fed meeting.
Ultimately, he expects little change in either policy or statement, other than the obvious acknowledgment that things aren’t necessarily going as planned.
Greenhaus still isn’t on the QE3 bandwagon, like so many are, but he does lay out some possibilities of what you might call QE2.5.
The Fed has three intermediate options:
The first stop for the Fed is almost assuredly its communication strategy. Simply, the Fed could commit to making its extended period even more extended. The expectations hypothesis would suggest that by committing to keep short term rates lower for even longer, rates further out on the curve would similarly decline. If the Fed believes that lower interest rates are stimulatory, then this is one way to achieve such an end
The Fed could lower the Interest on Excess Reserves (IOER). During the crisis, the Fed obtained the ability to pay interest on newly created excess reserves in the banking sector, the argument being that doing so would help the Fed control inflation. With loan generation running at fairly low levels, some have speculated that the Fed could cut the rate it pays on IOER in order to spur lending. The SNB has at times imposed negative interest rates for several reasons and so perhaps, in order to spur lending, the Fed might increase the cost of holding these reserves by reducing the rate it pays
The Fed could play with its balance sheet. On the one hand, the Fed is in the process of reinvesting maturity MBS into treasuries. They could push these reinvestments – currently running about $10-$14 billion per month – further out the curve to lower medium to longer term interest rates. They could also initiate a new program of buying bonds however there is considerable uncertainty, expressed by Bernanke himself, as to what effects a new plan may have. Further, any new plan would have to be quite large in size, at least $1 trillion, in order to get a significant reduction in interest rates. A purchase plan of that size could lower rates by as much as 100 bps.