If economic conditions do not improve in the near term, there will be a ‘strong case’ for U.S. policymakers to take new measures, Federal Reserve Board Governor Daniel K. Tarullo said in a speech Thursday. Atop the list of options should be large-scale mortgage-backed securities (MBS) purchases by the Federal Reserve, he said.
Speaking before the World Leaders Forum in New York, Tarullo noted that any additional actions taken by the Federal Open Markets Committee (FOMC) would be on top of what he described as "unconventional measures" by the FOMC to make monetary policy more accommodative.
The committee has kept the federal funds rate at near zero for almost three years, as well as launched two rounds of quantitative easing since late 2008. The first round included large-scale purchases of agency MBS, proceeds from which were reinvested in Treasury securities. Partly to shed other kinds of assets from the Federal Reserve's balance sheet, the second round of easing, approved last November, focused entirely on Treasury securities.
Last month, the FOMC decided to begin reinvesting proceeds of maturing agency securites in new MBS.
In his comments Thursday, Tarullo noted that an accommodative monetary policy alone cannot solve the nation's economic problems. He also acknowledged those who oppose the Fed taking additional measures.
‘I certainly do not disagree that well-conceived policies by other parts of the government could produce gains in employment, investment and spending," he said.
"But the absence of such policies cannot be an excuse for the Federal Reserve to ignore its own statutory mandate," he added, referring to the legislative requirement for the FOMC to promote the goals of maximum employment and stable prices.
Large-scale MBS purchases by the Fed could have a direct impact on the housing market, Tarullo said.
"By increasing demand for MBS, such a program should reduce the effective yield on those MBS, which in turn should put downward pressure on mortgage rates," he said. "The aggregate demand effect should be felt not just in new home purchases, but also in the added purchasing power of existing homeowners who are able to refinance. Indeed, homeowners who refinance get the equivalent of a permanent tax cut."
However, the effectiveness of such a program would be amplified, "perhaps significantly," if other nonmonetary policy changes accompanied it, he said, pinpointing mortgage refis in particular. Numerous obstacles have kept the federal Home Affordable Refinance Program from reaching potentially eligible underwater borrowers, he said.
‘Underwater borrowers whose loans are not guaranteed by [the government-sponsored enterprises] are essentially unable to refinance at all," he said. "Policy changes directed at this last, larger group of homeowners would have to be carefully designed so as not to transfer credit risk from private investors to the government, and could well require legislation.’