As the FOMC meets this week on March 16–17, one possible economic policy tweak is the return of “Operation Twist.” In general, this move is meant to stimulate the U.S. economy. The U.S. Federal Reserve (Fed) implemented Operation Twist in 1961 and again in 2011 and 2012.
Operation Twist is a form of quantitative easing that the Fed uses. Quantitative easing happens when a central bank buys long-term securities to help encourage lending and investment and increase cash flow in the market.
CNBC reported that Mark Cabana, a Bank of America Global Research rates strategist, told his clients that the Twist, or buying long-term bonds while also selling shorter-term Treasuries, was “the perfect policy prescription for the Fed, in our view.”
The mainstream media gave the policy tweak the name “Operation Twist” as a way of referencing how a new monetary policy impacts the shape of the yield curve. Analysts have been speculating about whether the Fed will use this policy strategy again to help smooth out volatility in the market.
How Operation Twist works
In 1961, the Fed used Operation Twist and sold short-term government debt in the open market. The Fed used the proceeds to buy long-term government debt. The move didn’t cause enough of a shift to lower the long-term rates, but it did boost the economy by raising short-term rates.
The most recent usage of Operation Twist was in 2011 and 2012, following the housing crisis of 2008. In 2011, the federal short-term interest rates were already at zero and so they couldn’t be lowered. In order to lower long-term interest rates, the Fed sold short-term Treasury securities and bought more long-term securities.
This second Operation Twist so far, with a cost of $400 billion, started in September 2011 and concluded in December 2012.
Operation Twist's goal
“The objective is to nudge up shorter-term rates and drive down those at the longer end, thus flattening the yield curve,” CNBC reported earlier in March. Operation Twist intends to strengthen the U.S. dollar and stimulate cash flowing into the economy.
Bill Gross hints at Fed Operation Twist in 2021
Former Pimco Chief Executive Bill Gross has hinted at the possible return of Operation Twist in 2021. In an interview, Gross said he had “a hunch” that something like Operation Twist could be coming soon. The Fed would start spending more on 10-year, 20-year, and 30-year Treasury bonds to keep long interest rates down.
Gross also speculated that the Fed might have already initiated an Operation Twist in recent weeks after bond yields increased.
Yield curve control
The yield curve, as Fidelity explains it, is “a graphical representation of the yields available for bonds of equal credit quality and different maturity dates.” Yield curve control targets longer-term rates by placing interest rate caps on certain maturities.
According to the St. Louis Fed, yield curve control can be complementary to other policies like quantitative easing and forward guidance. “The policy can thus help align market expectations with the FOMC’s expectations,” if the interest rate target is close to zero.