There is so much controversy over the Fed’s decision to buy another $600 bln of government securities that I thought I’d offer my two bits.
Let’s start with the astoundingly silly political criticism. One of the underlying purposes of the “quantitative easing” is to support slowed economic growth which leaves the politically unpopular high unemployment rate. A far more effective (direct) stimulus option to increase employment is through fiscal policy. Washington could increase incentives to hire through discounted payroll taxes or some other employer “pay back”. The Washington critics need to understand that the Fed is doing what Congress should be doing. Unfortunately, the budget effects of the last few years and political battling now leave Congress unwilling to move.
A key objective of the Fed’s “money printing” to pay for the securities are the deflation fears heightened by the slack in the economy which has already driven core consumer prices to more than a half century low of 0.6% from a year ago. Longer term price direction is determined by the money makers at the Fed. Fed Chairman Bernanke wants to guarantee some small amount of inflation to guard against the added economic headwind deflation would bring. In short, the public asks why buy today if prices will be lower tomorrow. Consumer expectations for lower prices would further reduce spending already significantly softened by high unemployment, low wage growth and tough bank lending standards. Bernanke was a strong voice on how Japan could have avoided the deflation that left its “lost decade”. He’s taking whatever measures he can to avoid U.S. deflation as policy rates sit just above 0%.
The cries of Fed currency manipulation heard from overseas and Washington are off base. First of all it’s the Treasury, not the Fed, who extremely rarely directs any dollar intervention. More to the point, a weaker dollar is usually the result of easing Fed policy which lowers interest rates – the key incentive to invest in dollar based securities. The effects on dollar based commodity prices (e.g. oil) is tied to the dollar value.
However, at least initially the longer term yields have risen as anticipation before the announcement of the Fed buying left yields plunging. Growth or inflation expectations may be providing the lift as may the unwinding from extremely low pre-announcement buying. Bond yields will go where demand directs them as the Fed rightly aims at deflationary risks created by the weak economy.
I’ll continue to put up occasional commentary and opinions.