Investment Contrarians

Federal Reserve Money Printing to Continue in 2013

By for Investment Contrarians |

Federal Reserve Money PrintingThe Federal Reserve has embarked on a path that is historically unprecedented in monetary policy initiatives, in the hope of reviving the U.S. economy from the depths of the most recent recession. Since 2008, the Federal Reserve has bought $1.0 trillion in long-term treasuries and approximately $900 billion in mortgage-backed securities, all in the hope of stimulating the American economy.

Everyone should know, at least by now, that there are definite limits to what monetary policy can do. It’s unfortunate that so much of the burden in reviving the American economy has been left to the shoulders of the Federal Reserve. A large amount of the blame for the current economic circumstances has to be placed on politicians in Washington. With the current fiscal cliff fiasco, once again, we are witnessing the ineptitude of our elected officials in their ability to resolve structural issues that are fundamentally crucial to the long-term economic stability and vitality of America.

Having said that, the Federal Reserve does have a dual mandate that must be met, and it is enacting monetary policy in a way in which it considers appropriate, considering the lack of action from Washington.

The next Federal Reserve meeting will be held December 11–12, and it will be extremely important. At this meeting, the monetary policy program called “Operation Twist” will end. This monetary policy initiative involved selling short-term treasuries to fund purchases of long-term treasury securities at a rate of $45.0 billion per month.

For the Federal Reserve, one issue with an extension of this monetary policy program is that the amount of short-term treasuries left to sell will soon be depleted. If this monetary policy program is to be extended, the long-term treasuries that will be bought will be funded purely from printed money. Historically, printing massive amounts of money without sterilizing it is inflationary. While Federal Reserve officials believe they can prevent inflation from taking hold, the action of printing money outright to buy long-term securities certainly increases the possibility of inflation in the future.

The question: will the Federal Reserve continue this monetary policy in addition to the existing purchases of $40.0 billion a month of mortgage-backed securities that the central bank is set to purchase for an indefinite period of time? Several recent remarks indicate that yes, the Federal Reserve will expand this monetary policy (“Operation Twist Part Two”) well into 2013.

Dennis Lockhart, the Atlanta Federal Reserve president, stated, “I am not prepared to say we are remotely close to a substantial improvement on the employment front.” The Federal Reserve chairman, Ben Bernanke, in a speech at the New York Economic Club, reiterated the same sentiment. (Source: “Fed Stimulus Likely in 2013,” The Wall Street Journal, November 28, 2012.)

I do believe that the Federal Reserve will continue the monetary policy of buying long-term treasuries in addition to the existing program of purchasing mortgage-backed securities. The current monthly rate for both monetary policy programs is approximately $85.0 billion.

At the December meeting for the Federal Reserve, in addition to extending the treasury buying monetary policy program, the Federal Reserve might also open up the communication framework and state explicit unemployment rate and inflation targets. The Chicago Federal Reserve president, Charles Evans, stated that he believes short-term interest rates will stay at or near zero until unemployment is below 6.5% with an inflation rate maximum of 2.5%. (Source: “Fed Stimulus Likely in 2013,” The Wall Street Journal, November 28, 2012.)

Considering the U.S. unemployment rate is 7.9%, a lengthy wait could be in store for us before Federal Reserve monetary policy is adjusted back to a more normal level. What I’m worried about are some of the unintended consequences of such a drastic monetary policy program. The run-up in home prices that caused the economic decline was partly due to abnormally easy monetary policy in the early part of the last decade.

I realize that the Federal Reserve is in a difficult position because it is trying to help the economy through monetary policy, which has a limited effect. Fiscal policy, which includes tax and spending rules as well as regulations by the government, has a huge effect on the economy. The politicians in Washington keep dragging their feet without making any real structural reform because they’re too worried about getting re-elected. Instead of thinking about what’s best for Americans today and for the future, they are simply pandering to voters.

We cannot continue down this path, where one part of the financial system, monetary policy, is trying to stimulate the economy while the other side of the financial system, fiscal policy, is dragging the economy back down. This level of uncertainty is weighing heavily on businesses and citizens all across the country. We can’t get this economy moving back to full speed until we get a roadmap to a fiscally viable future. The politicians in Washington need to wake up and realize there is more at stake than their re-election campaigns.

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