Thursday, August 11, 2011

Wolfers on the Fed's two-year promise

Justin Wolfers provides a very helpful interpretation of the Fed's announcement of a two-year commitment to a near-zero federal funds rate. It's a nice, teachable application of the term structure of interest rates, a common topic in introductory money and banking and probably finance courses. If the Fed wants long-term rates to fall, it can commit to keeping short-term rates low for a while, since the former depend on the latter (and on other things).

There's plenty of other helpful commentary on the Fed's move. This NPR article quotes Alan Blinder as stating that the average car loan has a maturity of 3 years, or only 50% longer than the Fed's commitment to low interest rates. I did a double-take, wondering whether I was an outlier in having a 5-year auto loan. But according to Fed survey data, the average maturity is actually above 60 months and has been fairly continuously since early in the new millennium.