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Fed would get little bang from balance sheet tweak

Facing pressure to keep money printing in check, US central bankers are mulling a modest approach to stimulus that would give the struggling economy only a tiny boost — if it helps at all.

After two rounds of bond purchases that have pumped $2.3 trillion into the banking system, the Federal Reserve could buy long-term treasury debt while selling short-term securities it already holds.

The idea, outlined by Federal Reserve chairman Ben Bernanke in July, would be to lower long-term interest rates without increasing the money supply. That in theory could spur home purchases by lowering benchmark rates for mortgages. It could also make it cheaper for companies to borrow so they can buy more equipment.

Such a plan could also weaken the dollar and increase stock prices, which might boost exports and make people feel more positive about the economy.

But many analysts doubt growth would improve much unless the Fed injects a lot more money into the economy.

'I don't think the impact on the real economy is going to be meaningful' without more aggressive Fed action, said Troy Davig, a former Fed economist now at Barclays Capital in New York.

The Fed has already slashed overnight interest rates to near zero. Earlier this month, it said it thought it would keep rates low for at least the next two years.

Of course, it could still summon more dollars and inject them into the system, but higher inflation and political pressure create an imposing hurdle for such bold action.

That leaves relatively underwhelming options.

Davig crunched numbers for the Fed's last stimulus plan to pump $600 billion into the economy by purchasing government debt — a programme dubbed 'QE2' — and estimated it would add about a half percentage point to growth this year.

Bernanke was likely to outline his options when he took the podium at a conference in Jackson Hole, Wyoming, on Friday.

Yet he cannot work magic.

Even the most aggressive campaign to lower rates without printing money could add just one- or two-tenths of a percentage point to next year's growth rate, Davig said.

Thomas Lam, an economist with OSK-DMG in Singapore, arrived at a similar conclusion, albeit considering a less-aggressive Fed strategy. Under that scenario, the Fed would reinvest money from maturing short-term bonds it holds in long-term assets.

Lam sees such a programme adding between one- and three-tenths of a percentage point to growth over a year, and perhaps more if markets respond well to the measure. For example, by bringing down long-term treasury rates, yield-hungry investors could pile into riskier assets like corporate bonds, making it cheaper for companies to borrow.

The Fed would likely launch some kind of bond-trading plan despite concerns it might not yield big results, analysts say. Every bit of growth helps.

Yet some are doubtful the Fed can do much at all by pushing interest rates lower.

Despite all the money given to banks, lending standards have tightened since the financial crisis.

Commercial real estate developer Andy Farbman could not get a loan recently to buy an office building in downtown Chicago worth just under $10 million.

'It wasn't the cost of the capital. The capital didn't exist,' said Farbman, president and chief executive of Southfield, Michigan-based NAI Farbman.

Because the loan wasn't there, Farbman paid cash, which meant less investment capital for other ventures.

Source : New Age