Expectations About the Federal Reserve's Balance Sheet and the Term Structure of Interest Rates

63 Pages Posted: 26 Dec 2012

See all articles by Jane E. Ihrig

Jane E. Ihrig

Federal Reserve Board - International Financial Transactions

Elizabeth Klee

Board of Governors of the Federal Reserve System

Canlin Li

Board of Governors of the Federal Reserve System

Brett Schulte

Board of Governors of the Federal Reserve System

Min Wei

Board of Governors of the Federal Reserve - Division of Monetary Affairs

Date Written: July 5, 2012

Abstract

This paper provides a systematic assessment of the effect of the Federal Reserve's asset purchase programs on Treasury yields, with particular emphasis on the role of market expectations about the evolution of the Federal Reserve's balance sheet and of interest rates on the impact of the programs. We construct measures of such market expectations based on Blue Chip survey forecasts, Congressional Budget Office projections, and information from formal FOMC communications. Those measures are combined with a no-arbitrage term structure model, in which yields are driven by current and expected future private Treasury holdings, among other factors. This approach allows us to provide estimates of the term premium effects of the asset programs both at the time of the announcements and in the future as expectations about the economy and the Federal Reserve's balance sheet evolve. Our results suggest that the program with the largest initial impact on the ten year Treasury yield as the first purchase program, which is estimated to have held down rates by about 40 basis points in early 2009, and the initial maturity extension program had the second largest estimated impact at its inception, pushing rates down by about 20 basis points in late 2011. Currently, we estimate all programs combined are holding down the 10-year yield by about 65 basis points, of which about one-third is attributable to the first purchase program.

Keywords: Balance sheet projections, term structure of interest rates, supply effects, treasury yields, Large

JEL Classification: G1, E4, C5

Suggested Citation

Ihrig, Jane E. and Klee, Elizabeth and Li, Canlin and Schulte, Brett and Wei, Min, Expectations About the Federal Reserve's Balance Sheet and the Term Structure of Interest Rates (July 5, 2012). FEDS Working Paper No. 2012-57. Available at SSRN: https://ssrn.com/abstract=2193992 or http://dx.doi.org/10.2139/ssrn.2193992

Jane E. Ihrig

Federal Reserve Board - International Financial Transactions ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-452-3372 (Phone)
202-736-5638 (Fax)

Elizabeth Klee

Board of Governors of the Federal Reserve System ( email )

20th and Constitution Ave NW
Washington, DC 20551
United States

Canlin Li (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-452-2227 (Phone)

Brett Schulte

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Min Wei

Board of Governors of the Federal Reserve - Division of Monetary Affairs ( email )

20th and C Streets, NW
Washington, DC 20551
United States

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