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Further Fed easing likely to boost precious metals

Precious metals investors often warn that the U.S. Federal Reserve is printing money at an irresponsible clip, but the Fed's balance sheet has actually been shrinking throughout 2012.

This, however, may be about to change. If so, gold investors will enjoy another moment in the sun on Wednesday afternoon when chairman Ben Bernanke unveils the central bank's latest policy announcement.

Beginning in 2008, the Fed expanded its balance sheet by massive amounts, flooding the financial system with new currency to prevent a global financial collapse. Federal Reserve assets ballooned from less than $1-trillion (U.S.) to just under $3-trillion. But in 2012 the Fed's balance sheet has been declining for most of the year, albeit by a small percentage (see chart to the left).

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The popular belief that the Fed is still expanding its balance sheet may arise from confusion over its Operation Twist. Many interpreted the program as printing money when it was merely an asset swap that did not directly increase money supply. The Fed sold shorter-dated bonds and bought debt with longer maturities in a bid to bring down long-term interest rates.

With Operation Twist ending this month and some U.S. economic indicators turning lower, 48 of 49 economists surveyed by Bloomberg expect a big increase in the Fed's purchase of Treasuries, as the central bank continues its efforts to drive rates lower and boost the economy.

The economists believe that the increased Treasury buying, combined with the Fed's existing pledge to buy up to $40-billion in mortgage-backed securities every month, will increase the Fed's balance sheet to $4-trillion in 2013.

That is exactly the sort of money printing that gold bulls have been warning about. Any announcement of increased Treasury purchases is likely to provide a boost to precious metals prices.

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