Doing A 'Twist': A New Plan To Boost The Economy

The Federal Reserve announced Wednesday it will indeed be "twisting" its portfolio in a bid to drive down long-term interest rates. Fed policymakers also announced steps to support the mortgage market.

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Federal Reserve policymakers today pulled out a new tool in their ongoing effort to revive the sluggish economy. After two days of meetings, they confirmed that they will go forward with a move known as Operation Twist. As NPR's John Ydstie reports, the goal is to bring down long-term interest rates and boost growth.

JOHN YDSTIE: The tool Fed policymakers grabbed has only been used once before, and that was by the Kennedy administration way back in the 1960s. It was dubbed Operation Twist by Wall Street traders, after the dance craze sweeping the nation at the time. The Fed's strategy, then as now, will involve buying long-term government bonds in an attempt to force long-term interest rates lower. Normally, the Fed's action focuses on lowering short-term rates. The Federal Open Market Committee members didn't say anything in their statement about the twist.

What they did say was, quote, "to support the economic recovery, the committee decided today to extend the average maturity of its holdings," unquote. It said by June of next year, it will purchase $400 billion worth of Treasury securities with remaining maturities of six to 30 years. Former Federal Reserve vice chairman Alan Blinder says the strategy will likely lower interest rates only a couple tenths of a percent, which should boost some mortgage lending and corporate borrowing and have a modest positive effect.

ALAN BLINDER: If you start translating one-tenth or two-tenths of a percent on long-term interest rates into more GDP - more borrowing, more GDP, more jobs - you get a measurable number, but a pretty small number.

YDSTIE: One economic consulting firm, Macroeconomic Advisors, says the Fed move could boost employment growth by 350,000 over the next two years. Michael Fratantoni, vice president for research of the Mortgage Bankers Association, says a separate move announced today by the Fed may actually be more helpful for the housing market than Operation Twist. Fed policymakers said they will again purchase mortgage-backed securities from agencies like Fannie Mae and Freddie Mac. But with mortgage rates already near record lows, says Fratantoni, the Fed action will provide only incremental improvement in the housing market.

MICHAEL FRATANTONI: It's gonna help a few more borrowers afford a home that may be a little bit bigger than they otherwise would have been able to purchase. It may help a few more borrowers refinance.

YDSTIE: But he says there are still a number of other constraints on the housing market that keep it from taking off, like high unemployment. Is the Fed now out of useful ammunition? Princeton professor Alan Blinder says, not quite.

BLINDER: It definitely, as is rational, shot off its most powerful weaponry earlier and has left the sticks and stones and BB guns for later.

YDSTIE: Blinder says there's one more thing he'd like to see the Fed do, reduce the interest rate it's paying banks on deposits they have at the Fed. That, he says, could nudge them into making more loans. John Ydstie, NPR News, Washington.

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