Ben Bernanke and QE3
The Fed announced yesterday that it would pursue an aggressive monetary policy of purchasing mortgage-backed securities at a rate of roughly $40B per month. What makes the announcement different from previous rounds of QE (quantitative easing), is that it was left open ended – in other words, it would continue until the Fed feels that the economy begins to react positively to the policy. Previous rounds had defined start and ends dates.
In the statement released by the Fed on Thursday, they indicated that employment continues to be the biggest factor in agreeing to further stimulus. Though the economy has continued to add jobs and reduced the unemployment rate in the past 4 years, it is not adding nearly enough, and recently the rate of job growth has all but stagnated. Last month, despite the unemployment rate dropping from 8.3% to 8.1%, the economy added only 92,000 jobs. More importantly, nearly 400,000 workers actually left the workforce.
What Does it Mean
The goal of the Fed purchasing mortgage-backed securities is to force rates lower and provide added liquidity in the lending markets. Ultimately, the Fed wants banks to lend more money and get the flow of funds moving faster throughout the economy. In previous rounds of easing, the purchase of Treasury securities was aimed at lowering interest rates and forcing investors into riskier securities (ie. stock market) in search of acceptable returns. To a degree this has worked, as we have seen the market advance in the face of continued economic headwinds.
Despite this third round of purchasing again pushing the stock market higher, there is tremendous speculation as to the long-term effectiveness of the program, given the fact that rates are already at historic lows, and much of the purchasing and refinancing resulting from low rates has already been accomplished. Some question whether we are simply setting ourselves up for a bigger fall.
The common theme is that the ever growing Fed balance sheet and now-unconstrained asset-buying binge is simply enriching those that are already wealthy (stock holders), but does absolutely nothing for the economy in terms of economic growth, job growth, or housing. It’s essentially a false market rally, with little to support it.
Imagine your household being fully mortgaged, your house underwater, maxed out on all its credit cards, and continuously being offered more and more credit. Then contemplate what would happen if suddenly the interest rates on all of your debt began to rise. Naturally your household becomes insolvent. Would your natural reaction be to add yet MORE credit to your existing debt load?
This is the problem facing the U.S. and the problem is only getting worse. Though we might not feel the pain right away, it’s just a matter of time before we run out of options to pay back our debts, and our only choice becomes massive inflationary policy in order to inflate our way out of debt (paying back existing debt with cheaper dollars).
What Ben Bernanke and his minions have done is essentially – almost emphatically - state that they are out of ideas on how to get the economy going again. This latest move is nothing more than desperation, a hail-Mary of sorts (hey, Doug Flutie did it successfully in 1984, it can work now). It still remains to be seen how exactly this latest move will do anything positive for the economy, other than serve as a temporary shot of adrenaline for the stock market. I certainly have my own ideas with regards to the timing of this latest gamble, but we’ll save the political commentary for another time.
Robert Henderson is the President of Lansdowne Wealth Management, an independent, fee-only advisory firm in Mystic, CT. His firm specializes in financial planning and investment management for retirement, with an added focus on the particular needs of women that are divorced or widowed. He is an Accredited Asset Management Specialist and a Certified Divorce Financial Analyst. Mr. Henderson can be reached at 860-245-5078 or firstname.lastname@example.org. You can also view his personal finance blog, The Retirement Workshop at http://lwmwealth.com/blog and the firm’s website at http://www.lwmwealth.com.
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