In particular, by purchasing longer-term securities, the Federal Reserve removes duration risk from the market, which should help to reduce the term premium that investors demand for holding longer-term securities. That effect should in turn boost other asset prices, as those investors displaced by the Fed’s purchases would likely seek to hold alternative types of securities. Some research studies have estimated that the effects of the earlier expansion of our securities holdings by just over $ trillion lowered longer-term Treasury yields by about 50 basis points through this portfolio balance channel. 3 These effects on Treasury yields appear to have been transmitted into lower rates on private credit instruments and higher asset prices more broadly. 1  Reflecting the long-standing practice of the Desk, principal payments on our holdings of Treasury securities were already being fully reinvested at Treasury auctions. 2  The Fed’s asset purchases initially had an additional and important effect on mortgage rates by improving the functioning of the MBS market. As I have noted in earlier speeches, the use of the central bank’s balance sheet can be particularly effective when focused on markets in which liquidity and market functioning have become impaired. The focus here is whether, in addition to those effects, the size and composition of the Fed’s balance sheet have a lasting impact on financial conditions in well-functioning and relatively liquid markets.
As always, what I have to say today reflects my own views and not necessarily those of the FOMC or the Federal Reserve System. 1 The economic outlook Turning first to the economic outlook, the real GDP growth rate appears to have slowed sharply during the first half of 2015. Based on the revision we received last week, firstquarter real GDP fell by 0.7 percent at an annualized rate. Although most projections anticipate a pickup in growth to around 2 percent or slightly higher in the current quarter, there is little question that economic growth has slowed significantly from last year’s secondhalf pace. What’s going on? Why has growth slowed and what does this portend for the remainder of the year? As I see it, the contraction in GDP growth in the first quarter represents a mix of factors. These include another unseasonably cold and snowy winter, a sharp contraction in oil and gas investment, a deterioration in the trade balance due – in large part – to the stronger dollar and sluggish foreign demand, and a slowdown in consumer spending growth after a very strong fourth quarter. After adjusting for weather effects, I think seasonal adjustment issues probably also played some role. For example, real defense spending has declined eight times in the past nine years in the first quarter, suggesting there is a seasonal adjustment issue. But I judge that this has had only a modest effect on measured real GDP growth.