Surprise! Fed torpedoes the taper, for now

Federal Reserve Chairman Ben Bernanke holds a press conference following a Federal Open Market Committee meeting at the Federal Reserve Bank headquarters Dec. 12, 2012 in Washington, D.C.

UPDATED (AP): The U.S. Federal Reserve said on Wednesday that it would continue buying bonds at an $85 billion monthly pace for now, expressing concerns that a sharp rise in borrowing costs in recent months could weigh on the economy.

The Fed had been expected to announce a scale back on stimulus spending, as Paul Dales, senior U.S. economist at Capital Economics in London, told Marketplace. But to understand quantitative easing, it's important to understand that it essentially entails the Fed buying bonds to keep interest rates down, encourage lending and stimulate the economy.

If the Fed does reduce bond buying short-term interest rates will likely rise. But the Fed doesn’t want the public to think that the Fed is raising the official interest rate. This is really difficult for the Fed because the point of bond buying is to keep interest rates low. Therefore it's logical that by buying fewer bonds the interest rates would go up. 

But the Fed doesn’t want the public to think that it is tinkering with the official interest rate, as opposed to market interest rates. Since tapering means that the Fed will buy fewer bonds, the indirect result of that is that market interest rates will probably go up.

 

About the author

David Brancaccio is the host of Marketplace Morning Report. Follow David on Twitter @DavidBrancaccio

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