1. Monetary policy in the spotlight
Piet Lammens

2. Monetary policy after zero rate
bound is reached
 23 september 2013  2

3. Monetary policy after zero rate
bound is reached (part 1): QE
 23 september 2013  3

4. Determination 10-year Treasury
yield
ECONOMIC
DATA
LIFT – OFF
DATE
FORWARD
GUIDANCE
SLOPE OF
OIS CURVE
TERM
PREMIUM
QUANTITATIVE
EASING
10-YEAR
YIELD

5. QE pushes term premium sharply
lower
 23 september 2013  5

6. Real 10-yr yield (left) versus
10-yr breakeven (right)
 23 september 2013  6

7. US 10-year yield
 23 september 2013  7

8. QE objectives
 Objective: lower longer term interest rates
 Stimulate aggregate demand. Change demand/supply
dynamics FI market
 Push investors towards riskier assets (equity/corp)
 Influence composition portfolio investors
 Scarcity channel/duration channel/expectation
channel
 23 september 2013  8

9. QE costs
 Inflated balance sheet
 Exit policy more difficult
 Fed effectively lost rate setting power
 Excess reserves: banks no longer dependent on Fed
 Remedies are possible, but jury is still out
(IOER, reverse repo at FAFR)
 Artificially pushing term (risk) premiums
down: recipe for bubbles
 23 september 2013  9

10. QE & Fed
communication/evaluation
 QE program linked to “substantial” improvement
labour market. (1 yr: 8.1% to 7.4%)
 Time path Bernanke (June FOMC meeting)
 Costs programme increase (bal. sheet) and risks
increase (Fed Stein: signs of overheating in some credit markets)
 Criticism mounts (impact growth negligible:
favours the haves versus the have-nots).
 23 september 2013  10

11. QE end-game
 Start tapering at Sept. FOMC meeting
 Start?: $15/20B
 Pace: Dec $20B, March & June14 $20/25B
 Evenly divided between MBS & Treasuries
 Data-dependent, but asymmetrical risk
 Largely discounted? Sell-off May/June?
 23 september 2013  11

12. Determine 10-year Treasury yield
ECONOMIC
DATA
LIFT – OFF
DATE
FORWARD
GUIDANCE
SLOPE OF
OIS CURVE
TERM
PREMIUM
QUANTITATIVE
EASING
10-YEAR
YIELD

13. Monetary policy as zero bound is
reached (part 2): Forward guidance
 History (Fed- BoE – ECB)
 Objective: influence curve beyond short term
horizon
 Promise about future rates (data-dependent/time-
dependent/undefined time period)
 Conditional
 Credibility
 Has reaction function CB changed?
 23 september 2013  13

14. Forward Guidance Fed
 Fed version
 March 2009 - August 2011: commitment to keep rates
low for an extended period
 August 2011: explicit calendar guidance (at least
through mid-2013, later shifted backwards)
 Dec 2012: tied to unemployment rate & inflation
• Unemployment rate 6.5%- inflation max. 2.5%, expect.
anchored thresholds, no triggers
 June 2013: QE tapering tied to unemployment rate too
 23 september 2013  14

15. Forward Guidance
 Fed tries to convince markets QE tapering has
nothing to do with forward guidance FF
 Possible changes to FG: lower unemployment rate
threshold to 6% and/or floor for inflation (1.5%)
 Markets have doubts (see recent curve moves)
 ECB & BoE forward guidance lacks credibility
 23 september 2013  15

16. Fed’s lift-off date
 23 september 2013  16

17. Fed Funds projections (governors)
 23 september 2013  17

18. Dec 2014/2015 FF future &
increased rate expectations
 23 september 2013  18

19. VS: Fed funds rate expectations
 23 september 2013  19

20. Unemployment & participation rate
 23 september 2013  20

21. Fed projections unemployment
rate
 23 september 2013  21

22. Fed projections GDP growth
 23 september 2013  22

23. US core inflation
 23 september 2013  23

24. Time path ST Euribor/Libor3m rates
 23 september 2013  24

25. Forward Guidance & markets
 Shift forward in lift-off date Fed rate change is not
completely out of line with Fed guidance
 Eco data to remain key
 Uncertainty high about fundamentals after crisis
 Quid productivity? Potential growth? Output gap?
 Simultaneous shift forward ECB & BoE official
rates, even before better eco date
• Signs of normalization after debt crisis to happen faster?
• If so, rate hike expectations still too shy
 23 september 2013  25

26. 1994 revisited?
 23 september 2013  26

27. KBC interest rate forecasts (Aug)
 23 september 2013  27
POLICY RATE 2/sep 3m 6m 12m
US 0.25 0.25 0.25 0.25
EMU 0.5 0.5 0.5 0.5
10 YR YIELD 2/sep 3m 6m 12m
US 2.82 2.8 2.8 3.3
GE 1.9 1.8 1.8 2.1

28. 10-year Inflation swaps
 23 september 2013  28

29. Determining 10-year US T-yield
ECONOMIC
DATA
LIFT – OFF
DATE
FORWARD
GUIDANCE
SLOPE OF
OIS CURVE
TERM
PREMIUM
QUANTITATIVE
EASING
10-YEAR
YIELD

30. ECB policy
 No pre-commitment was guiding principle
 Inflation objective sacro-saint
 2% was the unofficial bottom of rates
 Now: refi-rate: 0.5%
 LTRO loans FA/FF: liquidity enhancing
 ECB lost power over money market rate
 Eonia (& euribor) drop below refi-rate
 23 september 2013  30

31. ECB historical July decision
 New tool: Forward guidance
 rates will remain ‘at present or lower levels for an extended period of time’
 Easing bias: 50 bps is not floor
 All rates are envisaged: keeps open possibility of neg. deposit rate
 ECB wants to influence rates further out on the MM curve
 End of “we never precommit” mantra
 “Extended period” should be seen in terms eco data, not calendar dates, but…
 It suggests no tightening until at least end 2014/mid 2015
 Attempt to dissociate ECB policy from Fed policy & European yields from US
ones (success poor in 1994)
 EMU economy too weak to withstand higher yields
 Is commitment credible or sounds it hollow?

32. Fed leads the way in good & bad days
 23 september 2013  32

33. EMU: refi-rate expectations
(euribor 3m)
 23 september 2013  33

34. German 10-year yields more
upside?
 23 september 2013  34