Nothing for CRE in Operation Twist

Markets were unimpressed by the Federal Open Market Committee’s announcement last week that it would move forward with its Maturity Extension Program and Reinvestment Policy. More commonly cited as Operation Twist in reference to a similar program undertaken 50 years ago, this latest monetary policy intervention will see the Fed sell $400 billion in shorter duration securities between now and next June. Over the same period, the Fed will purchase an equivalent dollar volume of securities with six to thirty-year maturities. The goal of this rebalancing is to push longer-term rates lower, supporting more accommodative financial conditions than can be achieved through the Fed Funds target alone. Whether Operation Twist will achieve its goal, and whether it matters for the economic outlook, are questions for debate.

Will the program push long-term rates lower? At the market’s close last Friday, the yield on ten-year treasuries was already at a historic low of 1.81 percent. Based on current measures of inflation, the real rate is already negative. It is not clear if investors will tolerate a further erosion of yields at prevailing levels of issuance. One benchmark, economists have invested considerable effort in quantifying the impact of the 1961 foray into maturity rebalancing. In a recent research brief from the San Francisco Fed, economists from the Twelfth District estimate that the program pushed rates only 15 basis points lower. Of course, financial markets have evolved significantly since that time. Accounting for some of that evoluation and given that current rates are already at such extraordinarily low levels, our models show an average impact of 8 to 12 basis points, all things being equal, between now and the program’s conclusion in June 2012.