Bloomberg News

Tarullo Call for Mortgage-Debt Buying May Put Fed Closer to QE3

October 21, 2011

Oct. 21 (Bloomberg) -- Federal Reserve Governor Daniel Tarullo’s call for resuming large-scale purchases of mortgage bonds may boost chances the central bank will start a third round of asset buying aimed at reviving U.S. growth.

Policy makers should move the tool “back up toward the top of the list” because it would help the economy through lower mortgage costs that would boost home purchases and spending by people who refinance their home loans, Tarullo said late yesterday in a speech in New York.

The comments may reflect the thinking of other policy makers without yet indicating that Chairman Ben S. Bernanke and a majority of officials support an option the Fed stepped away from in early 2010, said Michael Feroli, chief U.S. economist at JPMorgan Chase & Co. Tarullo joins St. Louis Fed President James Bullard and Eric Rosengren of Boston in discussing the possibility of further asset purchases.

“Bernanke’s probably very sympathetic with a lot of the reasoning that went into this talk,” said Feroli, a former Fed researcher who is based in New York. At the same time, “I suspect he might have some reservations about wanting to expand the balance sheet.”

Fed policy makers last expanded their balance sheet with the $600 billion in Treasury purchases in the second round of so-called quantitative easing that lasted from November 2010 to June 2011.

The Fed has used unconventional tools twice since then. In August, it pledged to hold interest rates near zero until at least mid-2013, and last month the central bank said it would swap $400 billion of short-term debt in its portfolio for longer-term securities in order to bring down interest rates, a strategy dubbed Operation Twist.

Record Stimulus

The Federal Open Market Committee is considering increasing its record stimulus to spur the recovery and bring down an unemployment rate stuck near 9 percent for 30 months. Other options under consideration including tying the near-zero interest-rate pledge to specific levels of economic data such as inflation and unemployment, minutes of last month’s meeting showed. The FOMC next meets in Washington Nov. 1-2 and Dec. 13.

“Without more, the harm to the unemployed and their families continues, and the risks of longer-term harm increase - - both to the unemployed and to the country as a whole,” Tarullo said.

Tarullo, 58, is the first policy maker to publicly and explicitly call for the resumption of purchases of mortgage securities, such as those carried out by the central bank from January 2009 through March 2010 to combat the recession.

‘Most Potent Action’

Bullard told reporters yesterday in St. Louis that securities purchases would be “our most potent action, and I would not rule out QE if there were further deterioration in the U.S.”

Rosengren said in an Oct. 19 interview with CNBC that “if the economy were to be weaker than most people are forecasting, that would certainly be cause for doing additional monetary policy,” and more asset purchases are “certainly a possibility.” He said in a separate interview with the Wall Street Journal that the Fed should consider purchasing assets including mortgage debt, according to the newspaper.

“MBS purchases are worth considering as a monetary policy option precisely because they carry the promise of addressing the feature of the current aggregate demand shortfall that differs from typical recessions and recoveries,” Tarullo said in remarks at Columbia University’s World Leaders Forum.

Next Step

Drew Matus, senior U.S. economist at UBS Securities LLC in Stamford, Connecticut, said Tarullo’s talk is in line with Matus’s forecast that the eventual next step for the Fed will be a third round of asset buying totaling $1 trillion to $1.5 trillion of Treasuries and MBS over six to nine months.

“There’s still a pretty high bar there,” said Matus, who formerly worked at the New York Fed. Policy makers probably want to wait to see how the European sovereign-debt crisis plays out, he said.

The public may get more clarity on the FOMC’s options soon. Vice Chairman Janet Yellen is scheduled today to give a talk on monetary policy in Denver, while New York Fed President William Dudley, who serves as FOMC vice chairman, speaks Oct. 24 on the economy in the Bronx, New York.

Any decision to expand the Fed’s $2.86 trillion balance sheet may spark opposition within the central bank and a fresh wave of political criticism from Republicans. Most of the party’s presidential candidates have found fault with Bernanke or the Fed, while Republican lawmakers, including House Speaker John Boehner of Ohio, sent a letter to Fed officials last month urging them to forgo additional easing.

Inflation Concerns

Some officials at the Fed’s Sept. 20-21 policy meeting wanted to keep further asset purchases as an option to boost the economy, minutes of the session showed. Those opposing an expansion of the Fed’s balance sheet said it “would be more likely to raise inflation and inflation expectations than to stimulate economic activity,” the minutes said.

Tarullo, responding to audience questions after his speech yesterday, said the Fed has a “responsibility” to act “if we see an environment where there’s such a shortfall of aggregate demand.”

Tarullo, who joined the Fed’s Board of Governors in January 2009 as President Barack Obama’s first appointee to the central bank, spoke of the “despair and desperation that workers and their families must feel as weeks of unemployment stretch into months and even years.”

Worked for Clinton

An attorney, Tarullo worked for the late Democratic Senator Ted Kennedy in the 1980s, served in the Clinton Administration in the 1990s and advised Obama’s 2008 presidential campaign. He has helped lead the Fed’s efforts to tighten oversight of large financial companies.

The Fed bought $1.25 trillion of mortgage-backed securities as part of the $1.7 trillion first round of so-called quantitative easing, which also included purchases of Treasuries and other housing-related debt, the direct obligations of Fannie Mae, Freddie Mac and the Federal Home Loan Banks.

Last month, the Fed last decided to start reinvesting proceeds from maturing housing debt into mortgage-backed securities, switching from Treasuries.

The average interest rate on a 30-year fixed-rate home loan has declined to 4.11 percent in the week ended yesterday from 5.05 percent in February and reached a record low of 3.94 percent earlier this month.

Home Sales Fall

Still, sales of previously owned homes fell 3 percent last month to a 4.91 million annual rate, figures from the National Association of Realtors showed yesterday. The median price dropped 3.5 percent from a year ago.

Tarullo dismissed criticism that the central bank shouldn’t prop up specific parts of the credit market. He said while such concerns are “understandable in general,” mortgage bonds are “a widely traded instrument in a sector that appears, now more than ever, to be central to the slow pace of recovery.”

--Editors: Christopher Wellisz, Cherian Thomas

To contact the reporters on this story: Scott Lanman at; Caroline Salas Gage in New York at

To contact the editor responsible for this story: Chris Wellisz at

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