The Fed Open Market Committee (FOMC) announced today they would buy $600 billion of US Treasury bonds through Q2 2011, mostly of longer-term maturities. They said:
Information received since the Federal Open Market Committee met in September confirms that the pace of recovery in output and employment continues to be slow. Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software is rising, though less rapidly than earlier in the year, while investment in nonresidential structures continues to be weak. Employers remain reluctant to add to payrolls. Housing starts continue to be depressed. Longer-term inflation expectations have remained stable, but measures of underlying inflation have trended lower in recent quarters. …
To promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to expand its holdings of securities. The Committee will maintain its existing policy of reinvesting principal payments from its securities holdings. In addition, the Committee intends to purchase a further $600 billion of longer-term Treasury securities by the end of the second quarter of 2011, a pace of about $75 billion per month. The Committee will regularly review the pace of its securities purchases and the overall size of the asset-purchase program in light of incoming information and will adjust the program as needed to best foster maximum employment and price stability.
My guess was that they would target an amount of about $75 billion per month and that is exactly what they chose to do. And I will characterize the amount of $600 billion as their target amount is a “tentative” move, a “see how it goes” approach, which is also what I thought they would do.
Here are their purchase targets:
Because they still have to maintain the level of securities in their existing portfolio from QE1, they expect to reinvest $250 billion to $300 billion over the same period:
Taken together, the Desk anticipates conducting $850 billion to $900 billion of purchases of longer-term Treasury securities through the end of the second quarter. This would result in an average purchase pace of roughly $110 billion per month, representing about $75 billion per month associated with additional purchases and roughly $35 billion per month associated with reinvestment purchases.
We will see how the markets react and if this pushes down long-term rates for the long term. If the market anticipates that this is the beginning of a long term strategy, then, rates will move the opposite way.
I think this move also indicates that the employment numbers coming out on Friday will not be good. Again, unemployment will be the Fed’s prime measure of “success” especially in light of the election results.
We need to ask where all this new money they are printing will go besides into the pockets of the Prime Dealers. At the very least this injection will boost the financial markets for the short-term. My belief is that this new money will find its way into the general economy, increase money supply and result in some price inflation. QE doesn’t have the impact of a credit based expansion, but another $600 billion in fresh money will have an impact. The problem is that I don’t think this will work to stimulate the economy and raise employment and that is why I believe this is just Step 1 of QE.
If GDP stays flat, or declines, and unemployment remains high, I think the markets believe more QE will be coming and that it will mean serious inflation. And that will mean stagflation.