Fed is pessimistic about economic growth, will attempt stimulus through ‘operation twist’

The FOMC, the policy committee of the Federal Reserve, released Wednesday its statement on the economy, restating its pessimism about economic growth while pledging to inject additional money into the economy by purchasing long-term bonds while simultaneously selling off some of the short-term bonds it currently holds.

This strategy, which was attempted by the Federal Reserve under the Kennedy administration and was known as “Operation Twist,” is an attempt at stimulating the economy by making long-term borrowing cheaper at the expense of short-term borrowing. From the FOMC’s statement:

The Committee intends to purchase, by the end of June 2012, $400 billion of Treasury securities with remaining maturities of 6 years to 30 years and to sell an equal amount of Treasury securities with remaining maturities of 3 years or less. This program should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative.

The statement also commits to keeping the federal funds rate, the rate at which banks lend to each other overnight, very close to zero, as it has since the beginning of the economic downturn. Markets are already responding with the expectation that the Fed will carry out these goals.

However, the statement was in general pessimistic about what the strategy would accomplish:

The Committee continues to expect some pickup in the pace of recovery over coming quarters but anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate… The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee’s dual mandate as the effects of past energy and other commodity price increases dissipate further.

Here, the FOMC implies that they will not be pursuing a strategy of increasing inflation or inflation expectations to motivate firms to invest now rather than later and ease the debt burdens of ordinary families, a strategy that has been endorsed by many economists including former IMF chief economist Kenneth Rogoff and the former chair of President Obama’s Council of Economic Advisers Christina Romer.

For the second time this year, the statement had three dissenting votes, which is considered an unusually high number in FOMC voting history. The dissents came from Richard Fisher, Narayana Kocherlakota and Charles Plosser, the presidents of the regional federal reserve banks in Dallas, Minneapolis and Philadelphia, respectively. The statement said the dissenters voted against the statement because they opposed additional stimulus.