Dec. 11, 2012

The Federal Reserve is “killing” the economy instead of helping it by sticking with its ultra-loose monetary policies, said John Tamny, editor of RealClearMarkets.com.

 

To spur recovery, the Fed announced plans in September to buy $40 billion in mortgage-backed securities held by banks a month, a monetary policy tool known as quantitative easing but dubbed by many as printing money out of thin air.

 

The Fed also announced it would stick with a policy of selling short-term Treasury holdings in the market and buying longer-term instruments simultaneously with the aim of further pushing down interest rates across the economy, a separate monetary policy tool known as Operation Twist.

Combined Federal Reserve efforts are injecting a total of $85 billion a month into the financial system to spur investing and hiring by pushing down interest rates — with a weaker dollar and higher stock prices serving as side effects.

 

Operation Twist does not alter liquidity levels as quantitative easing does, though it does stimulate by nature.

 

The Fed is due to meet later this week to address monetary policy anew, and market talk says the Fed will stay the course at best, which means the dollar stays weak, the economy propped up and lasting recovery less likely.

 

“[The Fed] believes like kids do, and let’s agree here very young kids, that money grows on trees,” Tamny told Yahoo.

 

Such policies may prop up stock markets, but they don’t create lasting wealth.

 

“Basically, if you want money, just go ahead and create it and when you create that paper ticket you are actually creating wealth,” Tamny says of the Fed’s logic.

 

“We know logically in the real world that none of this is true. If the path to prosperity is creating dollars, then counterfeiting would be legal and would be encouraged.”

 

Considering that labor markets remain weak relative to pre-crisis levels and economic growth sluggish, the Fed will likely keep its foot on the accelerator and prioritize job creation over keeping prices in check and the dollar stable.

 

“My outlook for the coming year is that there is going to be more of the same sluggishness,” Tamny said, adding economic downturns aren’t exactly the terrible things the Fed is so desperately trying to avoid.

 

“The Fed is killing the patient. A recession is a cleansing process that the Bernanke Fed is not allowing … as a result [Fed policies are] dragging the recession further and further into the future.”

 

As a result, rates stay low and the dollar weak.

 

“There is no incentive to invest right now,” Tamny pointed out.

 

“Why is there no incentive? Well, our central bank remarkably is on record as saying it wants to devalue the dollars that those investors are buying.”

 

Gold prices have been inching up in recent trading sessions, a sign markets feel the Fed will make no change in policy.

 

Gold prices rise when the dollar weakens, as the two assets tend to trade inversely from one another.

 

Operation Twist is due to expire at the end of this year, and some market watchers feel the Fed may opt not to renew it, but rather beef up its current bond buying program, which would really add to the Fed’s balance sheet.

 

“Market expectation is that there could be more quantitative easing towards the end of the month, and this will be supportive of gold,” said Lynette Tan, an analyst at Philip Futures in Singapore, according to Reuters.

 

Other investors in fixed-income markets point out that inflationary pressures remain at bay for now, which gives the Fed more room to stimulate the economy.

 

“Inflation is on the backburner until you see a strong economy,” David Brownlee, head of fixed-income at Sentinel Asset Management, told Bloomberg.

 

“We take the Fed at its word that rates are going to be relatively low.”