Fed policy changes could be coming in response to bond market turmoil - economists

CNBC reports that while the Federal Reserve may not raise its benchmark interest rate for years, there are growing expectations it may tweak policy soon to address some of the recent tumult in the bond market.

The moves could happen as soon as the upcoming March 16-17 Federal Open Market Committee meeting, according to investors and economists.

One possible move would the third iteration of Operation Twist, a move the Fed last made nearly a decade ago during market tumult around the time of the European debt crisis. Another could see an increase in the rate paid on reserves to address issues in the money markets, while the Fed also might adjust the rate on overnight repo operations in the bond market.

The mechanics of Operation Twist involve selling shorter-dated government notes and buying about the same dollar amount in longer-duration securities. The objective is to nudge up shorter-term rates and drive down those at the longer end, thus flattening the yield curve.

Longer-term bond yields have surged over the past two weeks to levels not seen since before the Covid-19 pandemic. While they remain low historically speaking, markets have been concerned over the pace of the increase. The bond market was calm Monday, with rates in the middle of the curve mostly lower.

Implementing the scheme could help soothe some of the jangled nerves that accompanied a recent blast higher in interest rates from 5-year notes on up the curve. The “twist” is a nod toward adjusting the duration of its purchases to the longer end, and the buying and selling of equal weights mean the Fed’s already bloated $7.5 trillion balance sheet won’t be expanded further.