Markets watchful over Federal Reserve moves

Bond markets moved to anticipate new measures from the Federal Reserve to boost the US economy, as the central bank's interest rate-setting committee began a two-day meeting to hash out philosophical differences between its members.

The members of the Federal Open Market Committee are more divided than they have been for two decades over how much, if any, additional monetary stimulus is needed and how much can be safely applied without stoking inflation. The September meeting was extended from one to two days so that members can debate economic policy and philosophy, and consider a wider range of measures that the Fed might use.

Financial markets, though, moved to anticipate a programme that has been dubbed "Operation Twist", in which the Fed will replace some of its portfolio of short-term Treasury debt with longer-term bonds. Amid a global flight to safety yesterday, in which US Treasury debt was in high demand, 30-year bonds rose more sharply than short-dated bonds.

The monthly CNBC survey of senior money managers, out yesterday, found that 69 per cent expected the Fed to announce Operation Twist when its meeting concludes tomorrow or in the next few months. A majority expect the announcement to come tomorrow.

The Fed has already pumped more than $2 trillion (£1.3trn) of new money into the economy through the purchases of US Treasuries and other bonds, a programme called quantitative easing that increases the demand for bonds and therefore pushes down interest rates. Under Operation Twist, the Fed will switch from pushing down short-term rates to focus instead on the longer-term rates that most affect mortgage rates and the cost of borrowing for businesses in the real economy.

Economists are sceptical about the size of the impact the Fed will have, however. "With no change in the overall size of the Fed's balance sheet and with yields already so low, any support for the economy or for riskier assets is likely to be limited," John Higgins of Capital Economics said.