In result of the Fed’s recent announcement of QE3, it is critical for us to understand what it actually is, instead of only knowing that it influences the Foreign Exchange Market. The more we understand, the better choices we can make with regards to our Forex trading. Relying on second-hand knowledge and suggestions is not ideal. Let’s take a look at some details of the third round of QE.
How does this operate?
As announced September 13th, the Fed is buying “additional agency mortgage-backed securities at a pace of $40 billion per month”. These mortgage- backed securities are bonds backed by mortgages. When the Fed buys these bonds, they do it by crediting the accounts of the banks they are buying bonds from. Banks see the oceans of money flow into their Fed accounts and the Federal Reserve hopes that it will encourage and compel banks to lend the money to the public, through loans. If (notice I said “if”) the public (business, families, individuals) do take out loans, then, the economy is positively affected.
As more loans are given, the economy is jumping because of increased spending. Now, unemployment rates ought to start lowering as businesses are birthed and existing businesses expand. Although there is some evidence of quantitative easing improving the labor market, the unemployment rate hasn’t been below 8.0% since the first half of 2009. “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.” Find the full report here.
The above quote makes it clear that the purpose of their efforts is job creation. The Fed insists they will continue in their bond buying undertaking until there is such improvement. What if quantitative easing continues to prove insufficient for the creation of jobs? Let us face the facts: quantitative easing is effective at lowering interest rates but it may not be the solution for job creation. In theory, the plan sounds wonderful. The Fed is giving money to the banks, then the banks can loan money to individuals and businesses which will boost the economy. What if the Fed’s actions does the opposite? What if their money printing intimidates American citizens and brings so much uncertainty and fear of inflation that businesses cut costs, don’t hire, and people stay as far away from a bank as possible?
Quantitative easing may give us some short term growth. I think it could be killing the economy on an installment plan. Quantitative easing only adds enough gas in the economic vehicle to make it across town to lower interest rates, maybe not cross-country to substantial job creation.
Bernanke admits that the Fed alone is not strong enough to bend the broken economy’s wounds. In his press conference yesterday Bernanke stated: “we dont have tools that are strong enough to solve the unemployment problem”. Watch the press conference replay here.
This is Unique
The difference between the first two rounds and round three is the indefinite nature of QE’s accommodations. “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases..”. This means there is no reason to expect a QE4 because QE isn’t going to stop until the economy has approved.
This is especially disturbing because there are no defined improvement markers. The Fed didn’t state what “improve substantially” looks like. Hopefully the Fed at least has a secret definition of “improve substantially”. Without clearly defining a plan, we plan to fail. A vision without a goal is a fantasy.
THIS IS DANGEROUS
The concept may make sense but, does it work? The concept may be endorsed by the Federal Reserve but, is it beneficial to the American citizen?
With the Fed feeding money into the banks, essentially they will be creating money out of no where and, the banks are bringing in billions. In the meantime, inflation could set in as a result. This means while the banks bring in the big bucks, the average American’s grocery bill could go up.
According to Bloomberg, “Sixty-eight percent of 60 economists said the Fed chairman’s third round of quantitative easing will last until late next year or beyond. Just 51 percent of them said the strategy will help boost employment, with a median estimate of 116,000 jobs over the course of next year.” Only a little over 50% of these economists think QE3 will boost employment. “Most surveyed economists believe Bernanke has gone too far with quantitative easing, with 55 percent saying policy is too easy, compared with 48 percent who said so in a Sept. 7-10 survey.”
According to Jeremy Lawson, a senior economist at BNP Paribas SA, New York, the Fed’s balance sheet could grow by $1.5 Trillion dollars. That would be if the Fed combines Treasury and Mortgage Back Security purchases for 18 months, continuing QE3.
I think QE3 could be the Fed’s last tool in their tool belt and if it doesn’t work, they could lose their independence and the economy could continue to march towards the “fiscal cliff”.
For further reading, visit this article on the United States Presidential Election’s Effect on the Forex Market.
Also, see how Building Permit news could be tied to QE3.
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