Is the Fed Bluffing About Tapering QE? Podcast 9.26.13

Last week the members of the Federal Reserve voted to continue their $85 billion quantitative easing (QE) bond buying program. Many had expected the Fed to begin to taper their purchases.

Immediately following the meeting St. Louis Fed President James Bullard claimed that if the data supported an improving economy, the Fed might taper QE in October. Following Bullard’s comments, other Fed Presidents weighed in with conflicting messages as to what their intention are with respect to tapering QE.

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Summary of the Podcast

Ryan notes that the Fed, as he predicted did not taper QE at their recent Fed meeting. Ryan notes that Fed President James Bullard the next day starting talking about the Fed perhaps tapering in October.

Louis notes that the mere talk of taper caused interest rates to soar and that Ben Bernanke cited one of the reasons for not tapering was that interest rates had risen (or as he put it there were “tightening financial conditions”). Louis noted that if the Fed were to taper just a little it would cost them more in future QE purchases because interest rates would rise and the Fed would have to spend more money on QE to drive rates back down.

Louis notes that the next day St. Louis Fed President James Bullard started talking about how the Fed might still taper in October. Louis notes that not much can change in the next few weeks. Louis cites Bernanke’s point that he made in June that the economy could not handle higher rates because the economy was weak and would tank if rates increased.

Interest Rates Can’t Be Kept Low Without QE

Louis points out that when Bernanke made that statements he was still thinking that the Fed could keep the Fed funds rate low while tapering QE and was trying to sever the connection between low rates and QE. Louis notes that Bernanke found out soon after his Congressional testimony that even talking taper would cause rates to rise irrespective of where the Fed funds rate is.

Louis notes that rates are low solely because of the QE program and the expectation that the program will continue. Louis discusses the seemingly foolish comments of Mr. Bullard about possibly tapering in October if the data supports it, given not much can change. Louis notes that gold and silver gave up their gains of the prior day on hearing of this new taper threat.
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Ryan notes that the Fed seems to enjoy creating a mystery as to what they might do and suggests the Fed should indicate that they want to see six months of data before making a decision, not three weeks of data. Ryan explains how QE works and why the Fed has been talking about cutting back on that program. Ryan repeats that the Fed will leave the program in place.

Ryan reviews the new home sales data which came in around expectations and notes that interset rates have drifted downward. Ryan notes that there is looming Federal government shut down. Ryan mentions the Syrian situation as a distraction. Louis notes that a few weeks ago the Syrian situation was the most important issue facing the United States and required swift and immediate action that never came.

No Fed Intention to Stop QE

Louis notes that he believes the Fed has no intention of really shutting down the QE program and talks from time to time of “tapering” but will always find an excuse not to. Louis notes the Fed needs to do QE but are reluctant to signal that QE is a permanent part of the economy lest they lose confidence in the dollar so every now and then they threaten to taper QE. Louis notes the reason that the Fed cited in September not cut QE was that the economy was still weak. Louis notes that after spending trillions of dollars on QE the economy is still so weak that it can’t handle even a slight decrease in the amount of QE means the program has been a failure.

Louis notes that the Fed has already signaled that one of the reasons that they did not taper was they were concerned about the debt ceiling debate. Louis thinks this will provide the Fed with cover when they decide to continue with QE and not taper in October. Louis notes that the Fed might be losing credibility given that the program is going on five years.

No Fed Exit

Louis notes that even if the Fed were to taper, it would still mean adding more purchases each month to the trillion of dollars they already have bought. Louis asks how can the US pay the Fed back the interest and principal on the U.S. Treasuries it already holds. Louis suggests that in order to make sure they get paid, teh Fed will hae to roll over the existing principal and interest on the U.S.Treasuries that they hold and buy even more. Louis notes that the more bonds they buy the more they have to buy. Louis notes there is no way the Fed can sustain an exit strategy from QE.

Ryan notes that the bulk of the money from QE ends up largely into the banks and does not make it to anyone else. Louis notes that the Fed buys Mortgage backed securites that helps the banks’ balance sheets but does not help the average person or put any money into the economy.Louis notes that buying US treasuries helps fund the U.S. government’s deficit spending but does not add any new money into the economy for infrastructure projects that the Keynesians would favor.

QE supports the Two Largest TBTF entities- Large banks and the U.S. Government

Louis notes that the real impact of QE is to backstop the two largest too big to fail entities- the large banks and the U.S. government.

Ryan notes that home prices have risen due to low interest rate because of the QE. Louis notes that in and of itself does not create productivity or jobs.
Ryan note that the potential government shut down is a farce because the government can always ask the Fed for the money. Louis notes that the U.S. Treasury does not issue currency, but rather that task is in the Federal Reserve’s domain. Louis notes that the Fed issues currency out of thin air to buy U.S. Treasuries. Ryan notes that the debt is so large that the government might as well borrow more.

Ryan notes that if the Fed were to taper the economy would fall on its face. Louis notes the economy should fall on its face if people realize that the Fed has been buying trillions of dollars worth of MBS’s and U.S. Treasuries for five years with money created out of thin air. Ryan notes there are not that many people that understand this.

Ryan notes only people who have access to low interest rates benefit and that is a small percentage of the population.
Ryan discusses the interplay between home prices, inventory and interest rates.

Ryan and Louis discuss the Fed’s actions between now and the end of the year. Ryan thinks we are three or four years from collapse,Louis thinks its closer in time because eventually manipulation and schemes are overwhelemed by markets. Louis says that the reason the Fed bluffs about tapering is because they know that they can’t -higher rates means economy crates and the U.S. can’t afford its debt payments, which means government services would have to be cut. Louis notes that there has not been any steps take to solve the debt crisis.

Louis notes just because something hasn’t happened yet doesn’t mean it won’t happen. Louis notes that QE is a wealth transfer to the top. Louis notes that QE eventually brings everyone down as asset bubble burst. Louis notes that QE has not produced jobs or productive capacity but just a small housing bubblet and gains in the stock market which can be quickly erased.

Louis notes that many companies share prices have risen not because of increasing sales but because of share buy backs and expense reductions.

Ryan notes that Obama has an interest in not having the economy crash on his watch. Louis notes neither does Ben Bernanke and that might be another reason the Fed takes no action between now and the end of the year.

Louis discusses the concept of the tragedy of the commons as it impacts the thinking of business leaders with respect to QE. Louis notes that the new home sale numbers are 3-4X less than 2005-2006 which means new home construction is not really a big driver of the economy.

Louis and Ryan discuss the initial claims data and note that often an initial claim leads to permanent unemployment.
Ryan and Louis discuss the plight of the unemployed and young people who get laid off early in their careers.

Louis discusses the labor participation rate and unemployment. Louis notes that the Fed buying mortgage backed securities does not create jobs so continuing it makes no sense.

Louis notes that Keynesian stimulus is preferable to the Fed just buying mortgage backed securities and U.S.Treasuries.

Ryan notes that there is no real economy. Louis calls it just Fed intervention.

Louis characterizes government guarantees of mortgage loans as welfare.

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