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The Fed meeting today and tomorrow will focus on when to taper the $85 billion monthly bond purchasing program known as quantitative easing (QE).
As Money Morning told you yesterday, a lot of people seem to think the Fed will taper this week because the economy is improving and that the economy is strong enough to handle a reduction in its bond buying.
But like we said, this is a “dangerously popular delusion” – as this chart proves…
And we think the Fed won’t be able to take its foot off the gas just yet – especially when doing so in the past has triggered a 10% to 15% drop in the markets.
Here’s what you need to know about today’s Fed meeting and the possibility of a QE taper:
Fed Meeting Today
When Will the Fed Meeting Result be Announced?
The Federal Open Market Committee (FOMC) will announce its decision Wednesday afternoon at 2 p.m.
No one expects the Fed to completely slash its bond-purchasing effort. As Money Morning Chief Investment Strategist Keith Fitz-Gerald told CNBC last week, doing so could lead to a 25% to 50% haircut in the markets.
Ending the bond-buying program would be done in small increments and progress gradually. The Fed would reduce purchases from $85 billion to maybe $80 billion, to $75 billion, and so on, over a series of months.
But structurally, that won’t totally ease markets, as the global economy is going to have to learn to walk again without the Federal Reserve as the lead actor in the markets. The Fed could couple its tapering decision with additional verbal guidance on interest rates or inflation in an effort to buffer market uncertainty.
For example, they could reduce bond purchases while extending the interest rate benchmark downward on when they will consider letting interest rates rise (moving from 6.5% to 5.5%).
Has Quantitative Easing Succeeded?
The answer depends on who you are…
QE has been great for the markets. Wealthy Wall Street banks and many investors have had their portfolios boosted by QE over the past two years.
As Legacy Advisors pointed out this fall, there has been a .93 correlation between QE efforts and the price of the S&P 500 since Bernanke’s efforts started in 2008. A correlation of 1.00 signals a perfect positive relationship between two unique variables (in this case, market performance and the central bank’s buying and borrowing efforts to inject money into the economy).
With capital costs low, many banks took cheap money and invested in emerging markets and other high-yield investments, including junk bonds, which reached a record in 2013.
But corporate profits and investor returns are not the true measuring stick for any Fed success. What really matters is the macro-economy, including the central economic metrics to a nation like unemployment, consumer spending, and business investment levels, among others.
On paper, these numbers have shown considerable improvement in the last few months, driving optimism over the possibility that the U.S. economy can stand on its own with less hand-holding from the Federal Reserve.
But as we explain below, those figures on paper are not all they appear to be…
Do the Markets Expect Tapering?
Yes. Foreign markets and U.S. exchanges believe that the Fed meeting today will end with a taper announcement, with the actual QE taper beginning in the next four to five months. The Stoxx Europe 600 index, Britain’s FTSE, France’s CAC, Spain’s IBEX 35, and Italy’s FTSE MIB all opened Tuesday trading on the down side in anticipation of such a move.
And just a few months ago, when Bernanke floated the idea of a tapering start date, U.S. exchanges fell sharply. With the announcement of the Ryan-Murray budget in Washington last week, the market experienced a number of jitters, including rumors that the Fed was likely to begin its tapering efforts sooner than later. The market experienced a broader downturn over the week.
What Is the Case for Tapering?
The general case for a taper announcement coming from today’s FOMC meeting is that the U.S. economy will be in a much better place at the on-start of 2014 than we were at this time two years ago when the bond-purchasing program began. Official unemployment has fallen to 7% and the U.S economy has added 200,000 jobs or more over a series of months.
In addition, the bond-purchasing program cannot go on forever, even though Wall Street and investors have enjoyed remarkable returns thanks to the Fed’s efforts. There are some economists who argue that while it’s been good for the investor class, it hasn’t done enough to help the broader economy, and the Federal Reserve should turn its attention to other stimulatory means that might have a greater impact on Main Street rather than Wall Street.
What Is the Case for No Taper?
The case against tapering centers on a possible market sell-off, weak economic data, and a reminder that the “recovery” the government claims we are in is a sham…
Despite QE’s efforts, the U.S. has experienced weaker than needed business investment growth. This is taking place at a time when mortgage rates are back on the rise, which could be a dagger for the housing market recovery. Household spending actually slipped in the third quarter in advance of the holiday shopping season. Car purchases declined, inflation fell, and critical business spending on structures, non-defense durable goods, and equipment all declined quarter over quarter.
But there’s more than the problem of weak data…
As our Chief Investment Strategist Keith Fitz-Gerald pointed out two weeks ago, U.S. payrolls are still 1.5 million jobs short of where they were in 2008, and the “partimeification” of American jobs continues unabated.
Seven out of every eight jobs created during this “economic recovery” has been part-time work. Not only has the Affordable Care Act created perverse incentives to hire part-time workers, but the employers are also not justifying long-term investment in human capital to expand their businesses.
We have noted before how the recovery in the jobs market is absolutely phony.
While the official unemployment rate is at 7%, real unemployment is well passed double digits. The U.S. has a record number of people on disability, which doesn’t count its more than 10 million enrollees as unemployed. What’s worse, the employment participation rate is hovering near 30-year lows while our spending on benefits, food stamps, Medicare, Medicaid, and the other entitlement programs have skyrocketed to record levels.
In the end, low inflation, a weak job market, falling employee compensation, and host of other data do not justify a Fed decision to remove itself from the equation. QE has been great for the investor class, but the money hasn’t filtered through the broader economy as intended, leaving the theorists to devise new ways to support an economy that is hardly inspiring much long-term confidence.
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