Today, the Fed will end its 8-month, $600 billion experiment called QE2. Despite what you may hear, nobody knows what will happen next week . . . nobody!
QE2 was a program whereby the Fed would buy most all (85%) of the bonds issued by the U.S. government, in order to finance our mind-numbing deficits. In addition, it was designed to keep interest rates low, expecially for mortgage loans. It was successful in doing this, but home sales still did not increase. It was designed to reduce corporate borrowing costs and was successful, but business spending remains flat. It was designed to weaken the dollar and was successful in this, as exports increased. It was designed to pump up the stock market and was successful in this, but consumer confidence continues to fall. It was designed to prevent deflation and was successful in this. All in all, it was a mixed success. It certainly was not a disaster, even if commodity prices were also forced up.
Already, interest rates on Treasury bonds are inching up. Without the Fed buying $90 billion of Treasury bonds each month, who will buy them, at such low interest rates? This is even more true for long term or 30-year Treasury bonds, where the Fed bought virtually all the bonds.
Is the Fed finished? No, I don't think so. It has two mandates, i.e., control prices and drive down unemployment, and is failing in the last one. As interest rates rise, as the cost of U.S. debt service rises, and as unemployment nags daily, the Fed cannot stop supporting the economy. It is trying another experiment -- to see what happens in the next few weeks. The Fed can change course quickly and return to supporting the market. I'm sure it won't be called QE3, but it will be!
Oh, by the way, former Fed Head Alan Greenspan disagrees . . .
