MacroScope

Why QE3 isn’t just for the 1 percent

During a Q&A at the Brookings Institution last week, former Fed Vice Chairman Donald Kohn asked new board member Jeremy Stein, formerly a Harvard professor, about the impression that the Fed’s quantitative easing was only helping wealthy people who benefit most from rising stocks.

“How do you deal with this sense that the effects of policy aren’t being equitably felt in all parts of society,” asked Kohn, who worked at the Fed for four decades before stepping down in 2010, and is now a Brookings Fellow.

Stein, who joined the Fed’s influential Washington-based board in May as a governor, suggested this was not an entirely fair accusation given the wide-ranging effects of the policy. Here’s how he explained it:

Monetary policy is a blunt tool, and certainly it’s a weak tool for working on income redistribution. The first order thing we can do for income-distribution type concerns is make progress on economic growth and unemployment. Obviously unemployment almost by definition is something that affects people at the lower end of the income distribution.

Implicit in your question is the absolutely correct premise that at the lower end of the wealth and income distribution there’s less stock ownership. Of course, there’s also more borrowing. If you look at the demographic data, people at the bottom of the wealth distribution tend to be net borrowers. So while they may be losing on the one hand by earning less interest on savings, they’re also paying less interest if they’ve been able to refinance their mortgage. And even with the difficulties in mortgage world, auto loans have become much cheaper, and small business loans.

Don’t call it a target: Fed buys wiggle room with qualitative goals

U.S. Federal Reserve Chairman Ben Bernanke listens to a question as he addresses U.S. monetary policy with reporters at the Federal Reserve in Washington September 13, 2012. REUTERS-Jonathan Ernst

In a historic shift in the way the Federal Reserve conducts monetary policy, the U.S. central bank last week announced an open-ended quantitative easing program where it has committed to continue buying assets until the country’s employment outlook improves substantially. Bank of America-Merrill Lynch credit analysts captured Wall Street’s reaction:

With an open-ended QE program to buy agency mortgages, and an extremely dovish statement, the Fed managed to provide a positive surprise for a market that was expecting a lot.

The new plan is really not that different from adopting a defacto growth target. Still, given the lack of complete consensus on the matter within the Fed, its Chairman Ben Bernanke was forced to stick with words rather than numbers to convey his message of central bank commitment. From the Federal Open Market Committee Statement:

More Fed QE: done deal or Pavlovian response?

“Will he or won’t he?” That’s what investors, traders and policy-watchers in the financial markets are pondering, frozen at their terminals waiting to find out if Federal Reserve Chairman Ben Bernanke will persuade his colleagues to print more money this week.

Among economists who work for primary bond dealers, the firms who sell government bonds directly to the Fed, there’s a striking conviction rate that he will, 68 percent, according to the latest Reuters Poll of probabilities.

The wider forecasting community isn’t far behind, at 65 percent.

While that kind of probability is more than enough to make people paid handsomely to take huge bets with other people’s money to confidently say something is a done deal, the real policy decision is probably a lot closer.

Four reasons the Fed could buy mortgages

The U.S. Federal Reserve will probably focus on buying mortgage bonds if it decides to launch a third round of quantitative easing or QE3 at its September meeting, says Columbia Management’s senior interest rate strategist Zach Pandl, until recently an economist at Goldman Sachs.
1. Since the second phase of Operation Twist just got underway, “it would be strange to announce outright purchases of Treasury securities.” 2. Fed officials have publicly noted that continued purchases of long-term Treasury securities “might compromise the functioning of the Treasury market — and undermine the intended effects of the policy.” 3. San Francisco Fed President John Williams “directly advocated” mortgage purchases and Fed Vice Chair Janet Yellen has said that “beyond the Twist extension, ‘it’s more likely that [the FOMC] would do things that would take a different form.’” 4. “Purchases of mortgage-backed securities may be considered less controversial than Treasury bond purchases amidst the charged political environment, just prior to the presidential election.”

Surprise plunge in bond yield forecasts may spell more trouble ahead

By Rahul Karunakar

The spread between 2- and 10-year U.S. Treasury yields will shrink to 180 basis points in a year according to the latest Reuters bonds poll – the narrowest margin since August 2008, the month before Lehman Brothers collapsed.

Historically, that spread has been a key indication of what investors and traders are thinking about the economy’s prospects: the narrower it gets, certainly with short-term rates already at rock bottom, the darker the outlook.

It wasn’t looking particularly good in August 2008, and of course we all know what happened the following month: the start of an epic financial and economic crisis the world is still struggling to shake off.

BoEasing

The Bank of England is finally catching a break. With Britain’s economy officially in recession, the BoE had been constrained from further monetary easing by a stubbornly high inflation rate. But as the global economy stumbles and Europe’s crisis rages unabated, UK price pressures may be giving way.

Barclays economist Chris Crowe argues:

We expect the MPC to announce an additional £50bn in QE at the July policy meeting.

CPI inflation fell to 2.8% y/y in May (Barclays 3.1%, consensus 3.0%) from 3.0% in April. Meanwhile, RPI inflation declined to 3.1% y/y (Barclays and consensus 3.3%), from 3.5%. With near-term inflationary pressures easing, the case for additional QE in response to faltering confidence is stronger.

Forecasting gymnastics on the BoE’s printing presses

The fluctuating fortunes of the British economy in the last year have left forecasters in a fix, unable to make up their minds how much longer the Bank of England’s money printing presses need to roll on.

Forecasting gymnastics on the subject could make many economists Olympic contenders for the gold medal.

Deutsche Bank, Morgan Stanley and Lloyds Bank are the latest to predict the BoE will announce that it will buy an additional 50 billion sterling worth of government bonds, taking the total amount spent in the programme to 375 billion sterling.

Who’d be a central banker?

The focus is already on the euro zone finance ministers meeting in Copenhagen, starting on Friday, which is likely to agree to some form of extra funds for the currency bloc’s future bailout fund. What they come up with will go a long way to determining whether markets scent any faltering commitment on the part of Europe’s leaders.

In the meantime, top billing goes to Bundesbank chief Jens Weidmann speaking in London later. He is heading an increasingly vocal group within the European Central bank who are fretting about the future inflationary and other consequences of the creation of  more than a trillion euros of three-year money. There is no chance of the ECB hitting the policy reverse button yet but the debate looks set to intensify.
A combination of German inflation and euro zone money supply numbers today (which include a breakdown on bank lending) will give some guide to the pressures on the ECB.

Central bankers face a very mixed picture with U.S. recovery and high oil vying with the unresolved euro zone debt crisis and signs of slowdown in China.

There be feudin’ at the BoE

The once-good relationship between Bank of England Governor Mervyn King and his most likely successor, Deputy Governor Paul Tucker, is coming  under increasing strain, according to a new book by former Daily Telegraph journalist Dan Conaghan.  It  alleges   King’s management style and and alleged disdain for the financial markets is to blame.

While the Bank of England’s Monetary Policy Committee remains reasonably collegiate, on other matters King more than lives up to the description from former chancellor Alistair Darling that he is ‘incredibly stubborn’, says Conaghan, who now worksas an asset manager.

“The governor can be particularly dogmatic,” he told Reuters. “One of the key things … is the attitude to the capital markets. One of my sources described Sir

Fed hasn’t silenced markets, Williams says

Federal Reserve policymakers have long watched markets to gauge what investors think is in store for interest rates and the economy. Some – like former Fed Governor Kevin Warsh – have worried that the Fed’s unprecedented purchases of trillions of dollars of U.S. Treasuries and its long-term guidance on the future path of interest rates shuts off a key source of policy-guiding information. The Fed’s recent decision to publish policymakers’ interest-rate forecasts will make the problem worse, he predicted in a speech at Stanford University last month.

In some sense I have partially been made blind by these asset purchases. I, for one, consider financial markets an incredibly useful source of information. If the markets take the Fed’s projections and build that into their own, then the Fed won’t have a full set of gauges in front of them. The markets will simply be a mirror to what they say.

Now comes San Francisco Fed President John Williams with a research paper that argues, to put it bluntly, that Warsh is wrong – that markets are providing just as much information about expectations for Fed policy as they did in the days before the Fed had bought $2.3 trillion in long-term securities and began signaling short-term rates would stay low for years.