U.S. Federal Reserve Chairman Ben BernankeJIM YOUNG
When it comes to further quantitative easing in the U.S., the big question facing Federal Reserve chief Ben Bernanke is should he, or shouldn't he?
With short-term market interest rates close to zero, quantitative easing is one of the only powerful weapons remaining in the Fed's arsenal for fighting off any renewed economic weakness.
Mr. Bernanke didn't mention the topic in prepared remarks in his semi-annual testimony to U.S. law makers last week, much to the dismay of some market watchers who believe this form of unconventional monetary policy, essentially creating money out of thin air and colloquially known as running the printing presses, will be back, sooner or later.
Ian Shepherdson, chief U.S. economist at High Frequency Economics, predicted in a note to clients last week that there is "every chance that monetary contraction will force a return to quantitative easing by the end of the year."
In an interview, he said he's worried that the U.S. is nearing the point of deflation and money supply growth is stalling, something that also happened in the Great Depression. He thinks Mr. Bernanke is waiting until there is an overwhelming case for this type of easing, so he won't get flak from his divided policy-making committee for running the printing presses again.
For stock market players, there should be keen interest in whether quantitative easing returns, because the last time the U.S. central bank undertook such a program was an uncanny predictor of equity prices. The European Central Bank's program of quantitative easing during this spring's debt crisis has also coincided with higher equity prices there.
The Fed's easing program was announced on March, 18, 2009, within about a week of the ultimate bottom in shares following the panic over the Lehman Brothers collapse. By the time the program ended this year in March, stocks had rallied about 50 per cent. Equities then started trending lower in April, just weeks after the Fed stopped quantitative easing, and currently remain well below their year-to-date peak.
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Although many factors have influenced equity prices, such as the jitters over sovereign debt, Mr. Shepherdson called the close tracking with the Fed's activities "very curious" and might be due to the program pumping about $100-billion (U.S.) in new liquidity into the financial system each month.
Under its quantitative easing, the Fed bought $300-billion in longer term Treasuries and brought its total purchase of mortgage-backed securities to $1.25-trillion. The Fed buys the securities with newly minted money it creates essentially out of thin air in a kind of modern day financial alchemy.
Other market watchers discount the possibility of renewed quantitative easing, saying it isn't warranted by current conditions.
"They're going to stay away from it as long as they can," says Andrew Busch, public policy strategist at BMO Nesbitt Burns in Chicago.
He says there would have to be a renewed recession or spike in unemployment for such a policy switch. "The double dippers I think are predicating their belief on a deflationary environment and zero growth. I don't see those two happening at this time," he said.
That view was echoed by another critic of quantitative easing, Van Hoisington, president of Hoisington Investment Management Co., a Texas-based money managing firm.
"Even though economic conditions are going to be quite soft for an extended period of time, we're not looking at major declines in GDP so we're not sure the stresses on the system would justify it," he said.
Mr. Hoisington points out that the money created from the Fed's aggressive buying of securities to date has remained stuck in the banking system because of weak loan demand and therefore hasn't triggered growth in the money supply. But he worries that if there is another round of easing, the Fed would stoke inflation jitters, possibly raising long-term interest rates, with little to show for it.
Because the Fed can create money at will by buying securities, this activity always attracts attention from those fearful that the U.S. could eventually end up in a hyperinflationary environment.
One such worrier is John Williams, proprietor of Shadow Government Statistics, an economic data analysis firm, who says the out-of-control U.S. federal deficit will surge even larger if there is a renewed economic slowdown, tempting the government to inflate its debts away. The temptation may turn into a necessity if the U.S. ever finds itself in a Greek-style situation with market nervousness over its solvency.
"As a result, I'm looking for the government to resolve this as most governments do that spend well beyond their means, and that is they print the money they need and you end up with a hyperinflation," he says.