Wednesday, January 14, 2009
Bernanke focuses on credit market problems
By in Washington Published: January 14 2009 02:00 Last updated: January 14 2009 02:00 The Federal Reserve is paying close attention to problems in securitised credit markets and may expand a programme that supports the flow of consumer finance if the scheme proves successful, chairman Ben Bernanke said yesterday. His comments came in a speech in which he explained for the first time how the Fed intends to exit from unconventional easing without unleashing a burst of inflation. The Fed chairman said the new Term Asset-backed Lending Facility (Talf) model, unveiled late last year, could be "expanded to accommodate higher volumes or additional classes of securities as circumstances warrant". He highlighted the potential to expand the Talf scheme, which directly funds securities market participants such as hedge funds - bypassing dysfunctional banks. It is backed by $20bn in Treasury equity capital, allowing the Fed to take some credit risk. At present the $200bn (€152bn, £137bn) scheme, which goes operational next month, is restricted to top-rated securities made up of newly issued consumer and small business loans. However, with more Treasury risk capital, it could be expanded and extended to other asset classes. Policymakers view commercial mortgage-backed securities as among the top contenders, though some worry the Fed could get stuck in this business. So-called "jumbo" residential mortgage-backed securities might also be considered. Analysts say the Fed could also extend the Talf to cover older issues of asset-backed securities or less highly rated securities, although the Fed is wary of getting too deeply into the business of pricing credit. In his speech, Mr Bernanke stressed the differences between the Fed's "credit easing" and the quantitative easing pursued by the Bank of Japan in the early 2000s - arguing against a US target for bank reserves. Mr Bernanke also fleshed out Fed thinking on possible purchases of US government bonds. He said the debate over such purchases would "focus on their potential to improve conditions in private credit markets, such as mortgage markets". While some Fed officials remain sceptical about buying government bonds, the central bank wants to ensure that the ballooning deficit does not push up US interest rates, crowding out private investment. Mr Bernanke's remarks suggest that any Fed buying of Treasuries would focus on the five to 10-year range, since Treasury yields at this maturity have the greatest impact on mortgage rates. Regarding the Fed's exit strategy, Mr Bernanke said the US central bank would "have to unwind its various lending programmes" when credit markets and the economy began to recover. Some of this unwinding would "happen automatically" as demand for Fed facilities declined, while some emergency programmes would "have to be eliminated" once conditions "substantially normalise". However, since this would constitute a tightening of policy, the "timing and pace of that process" would be determined by the Fed's view of the outlook for markets and the economy. A "significant shrinking of the balance sheet can be accomplished relatively quickly", Mr Bernanke said, since "a substantial portion" of Fed assets are short-term. The chairman recognised that the Fed also expects "to hold significant quantities of longer-term assets" and would "not anticipate disposing of more than a small portion of these assets in the near term". This, he admitted, would "slow the rate at which our balance sheet can shrink". But he argued the Fed's ability to pay interest on reserves would allow it to raise the federal funds rate when this was needed even if there was still some excess supply of reserves - provided that excess was smaller than it is today. The US central bank could also use bonds or long-term repo (repurchase) agreements to fund long-term assets and mop up excess reserves, he said.