Conventional monetary policy works by changing market expectations for the future path of short-term interest rates, which, in turn, influences the current level of longer-term interest rates and other financial conditions. These changes in financial conditions then affect household and business spending. By contrast, securities purchases by the Federal Reserve put downward pressure directly on longer-term interest rates by reducing the stock of longer-term securities held by private investors. These actions affect private-sector spending through the same channels as conventional monetary policy.

60 Minutes: Do you anticipate a scenario in which you would commit to more than $600 billion?

Bernanke: Oh, it's certainly possible. And again, it depends on the efficacy of the program. It depends on inflation. And finally it depends on how the economy looks.

Regarding the rise in nominal interest rates, Bullard said that QE2 puts downward pressure on nominal rates through securities purchases but that the effects of successful policy would put upward pressure on nominal rates.  Therefore, Bullard argued, looking at the level of nominal rates alone is insufficient to judge the success of QE2.

I am still somewhat skeptical that we will see much of a stimulative effect from the new round of purchases. The Fed’s first purchase program worked to lower interest rates, although estimates vary quite a lot. Some studies suggest that the effect was 30 to 60 basis points. Others found a much smaller impact. Yet, these purchases were done at a time when financial markets were highly disrupted and asset risk premiums were extremely elevated. But markets are no longer disrupted, so we cannot expect the same effect this time. Even if we did, it is not clear to me that a further reduction in long-term interest rates will do much to speed up the reduction in the unemployment rate to more acceptable levels.

I am still somewhat skeptical that we will see much of a stimulative effect from the new round of purchases. The Fed’s first purchase program worked to lower interest rates, although estimates vary quite a lot. Some studies suggest that the effect was 30 to 60 basis points. Others found a much smaller impact. Yet, these purchases were done at a time when financial markets were highly disrupted and asset risk premiums were extremely elevated. But markets are no longer disrupted, so we cannot expect the same effect this time. Even if we did, it is not clear to me that a further reduction in long-term interest rates will do much to speed up the reduction in the unemployment rate to more acceptable levels.

I strongly supported the Federal Reserve's recent action because I believe it will be helpful in strengthening the recovery.  But it is hardly a panacea.  Thus, a fiscal program that combines a focus on pro-growth policies in the near term with concrete steps to reduce longer-term budget deficits could be a valuable complement to our efforts.

There’s a little bit of hysteria out there [among critics of Fed policy].

Indeed, one could readily argue that buying $600 billion of Treasuries is a much more convincing form of communication of the FOMC’s plans than any words could ever be.

How does QE go about lowering long-term real interest rates? QE is a sufficiently novel monetary policy tool that different economists may well give different answers to this question. In my view, QE lowers long-term real interest rates in two distinct ways. The first is that QE is a form of nonverbal communication about the FOMC’s future plans... However, QE also lowers long-term real interest rates in a second, more direct, way. The holder of a long-term Treasury is exposed to interest rate risk, because the value of that bond fluctuates as interest rates vary. When the Fed buys $600 billion of long-term bonds, the bond portfolio of the private sector is now less exposed to this kind of risk. As a consequence, private investors will demand a lower premium for holding other bonds that are exposed to interest rate risk, and all long-term yields fall.

I believe that QE is a move in the right direction. However, as I have discussed on earlier occasions, I also think there are good reasons to suspect that the ultimate effects of any amount of QE are likely to be relatively modest. That’s why I would have greatly preferred for the committee to have been able to cut its target rate rather than using QE. The problem is that its target rate is already essentially at zero, and so it was not possible to cut the target rate any further.

While such estimates are by nature quite uncertain, we estimate that the impact could be a reduction in the unemployment rate by the end of 2012 of a little less than half a percent. This would translate into more than 700,000 additional jobs that we would not have had in the absence of this monetary policy action.

In additional comments to Bloomberg News, Rosenberg said:

"Given my forecast, I fully anticipate we will purchase the entire amount. Certainly if the economy were to weaken substantially and further disinflation were to occur, we should take more action," and officials could also make "adjustments" if the economy turned out to be much stronger than expected.

Large expansions of the balance sheet can complicate exit strategy, when that becomes appropriate. While the Federal Reserve has a variety of tools designed to tighten policy, either by raising interest on excess reserves, removing reserves, or selling securities, some of these tools have not been used in the past. Naturally this makes the exact impact of various tools somewhat more uncertain than normal. Still, I am very confident of the Fed’s ability and will to exit, when necessary.

You know, I think there's sorta two sort of critiques of the large scale asset purchase program. One, it won't be effective. It doesn't do that much. And-- and we agree with that, that we don't think that this large scale asset purchase program's going to have a huge, powerful effect on-- on the U.S. economy.

And two, I think there's a lotta concern about exit. Once-- when the time comes and the U.S. economy finally does pick up speed and inflation starts to rise, will we-- will we be-- will-- will-- will we be able to exit from this program smoothly without a long term inflation problem? And I think the answer to that second question is really critical. And our answer to that question is very much yes.

[T]he Committee noted that progress toward lower employment has been "disappointingly slow." That observation makes the important distinction that it is not the high level of unemployment alone that motivated the action, but rather the slow pace of improvement and the belief that further monetary stimulus could help.

Monetary policy can surely have great influence--most notably by establishing stable prices and appropriate financial conditions--on the real economy. By my way of thinking, the risk-reward ratio for Fed action peaks in times of crisis when it has a full toolbox and markets are functioning poorly. But when non-traditional tools are needed to loosen policy and markets are functioning more or less normally--even with output and employment below trend--the risk-reward ratio for policy action is decidedly less favorable. In my view, these risks increase with the size of the Federal Reserve's balance sheet. As a result, we cannot and should not be as aggressive as conventional policy rules--cultivated in more benign environments--might judge appropriate.