The US Federal Reserve will probably wait a full year after it begins raising interest rates before it stops buying bonds, a Goldman Sachs and Co report said.
An analysis of data showing how the US central bank’s bond purchases since the global financial crisis have reshaped portfolios across the financial industry suggests that ending the buying could have a significant impact on the US economy.
Uncertainty surrounding the magnitude of that impact would cause the Fed to take its time before ending reinvestments of the maturing securities it holds, New York-based Goldman Sachs senior economist Zach Pandl said in a report on Friday last week.
The Fed must decide whether to reinvest US$216 billion in proceeds from maturing US Treasury securities next year, or to shrink its balance sheet by allowing the debt to expire.
By not reinvesting, the Fed would increase the supply of securities available to investors and put upward pressure on yields, adding another dimension of monetary tightening to the central bank’s interest rate increases.
Policymakers’ quarterly projections released on June 17 showed that most of them continue to expect to begin raising rates later this year for the first time since 2006.
US private-sector holders of debt such as investment funds, banks and insurance companies reduced their holdings of US Treasuries the most when the Fed was purchasing them, Pandl said.
This group of investors would be holding US$300 billion more long-term US Treasuries than they do now if their share of the debt were the same as it was before the central bank’s purchase programs began, he said.
The Fed started its unprecedented bond purchases to reduce longer-term borrowing costs in 2008 as it cut the Fed funds rate almost to zero. It bought Treasuries and mortgage debt in three waves of so-called quantitative easing that ended in October last year, amassing a US$4.2 trillion portfolio in the process.
That the US private sector’s share of holdings of US Treasuries maturing in 10 to 30 years’ time fell as the Fed bought them constitutes “some evidence” that the purchases eased financial conditions by removing interest-rate risk from the market, Pandl said.
That makes the consequences of a decision to put the bonds back into private hands by ending purchases more unpredictable, he said.
“Our previous view had been that full reinvestment would end six months after the start of rate hikes, implying mid-2016 on our current forecast for liftoff in December,” Pandl wrote in the report. “We now think twelve months after liftoff looks more likely, implying late-2016 or early-2017.”
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