QE3, QE4, QE5…

QE3 is in the offing…

Consensus expectations just seems to demand it as a generation of gambling speculators, swindlers, government policy junkies and others with short attention spans and a psychopathic indifference for the soundness of the financial system panic at the least sign of slowdown and line up for another dose of the Feds easy money.

Looking at some of the latest trends, a slowdown of sorts would not be so surprising.

The economy is still being seriously impacted by the evolving housing decline, unemployment remains at 9%, oil prices are near $100 a barrel with gasoline prices reflecting that fact, the Federal Government is toying with the debt ceiling, China is likely overheating as it inches ever closer to parabolic residential real estate prices and likely an ugly crash, other notable leading emerging markets like India and the Russian Federation are continuing to slow, Greece and other European countries are moving closer to debt restructuring… the list of negative externalities runs long yet they all carry the telltale ring of the Great Recession about them.

This is the point at which one, having been schooled by the Fed over many years, must begin to ask the question “What will the Feds response be?”… as if a response by the Federal Reserve is nearly a reflexive action to a consensus expectation of looming slowdown.

The answer to that question should not require such a stretch of imagination… the simple short answer is QE3… no more, no less.

Why would the Fed stop now? Should a slowdown materialize, it will ultimately been seen as an offspring of the Great Recession and treated as such.

Recognize that during last month’s historic Fed press conference, “Helicopter” Bernanke made no quibble of the fact that the Fed will continue the principle reinvestment function that they have been carrying out ever since they acquired such a sizable bounty of mortgage securities, a clear sign that pumping liquidity is not only the response de jure but the de facto response.

Like a pair of dysfunctional sweethearts, the Fed knows no different course of action then easing and the consensus expects it, so easing it will be.

But as we move further and further from the point where the Feds intervention is viewed as “pump priming” and nearer a more accurate perception of it as the “pump”, one has to wonder when consensus will begin to lose faith and worry that this scheme has no merit.

Only then will we ultimately realize the true consequence of the years of Fed actions.

Is the Fed Gearing Up for QE3?

This morning the President of the Federal Reserve Bank of Atlanta, Dennis P. Lockhart, gave a speech titled “Economy Today and Policy Framework for Today and Tomorrow” in which he outlined his views on the state of the economy and the role the Fed has played.

Probably the most interesting segment of this discussion was related to quantitative easing (the process by which the Fed has further eased monetary policy after the traditional Fed funds rate has met the zero bound) and more specifically the potential for QE3.

“With the information I have today, my first inclination is to be very cautious about extending asset purchases after June. Given the emergence of new risks, however, I prefer a posture of flexibility as regards policy options. As we have seen, conditions can change rapidly, so I will continue to evaluate the incoming information as much as possible with fresh eyes as I approach each meeting and each decision.”

This might be one of the first instances of a Fed president insinuating that QE2 might be superseded by a third round of easing (LSAP3… large scale asset purchase 3) should the Fed believe that the risks facing the economy warranted it.

Interestingly, Lockhart suggests that the current $600 billion QE2 program was equivalent to a 75 basis point cut in the federal funds rate which, when put into context with the historical impact of such a large fed funds rate cut, gives you a sense of the risks they measured for a double-dip last year.

It’s important to recount that the Fed is roughly half way through to the $600 billion goal and while many have suggested that, given the strengthening economy, the Fed might end the purchase program early, Lockhart appears to assume that the program will complete and then some.

On the topic of exiting from the current policy, Lockhart rules out the potential to simply allow the securities from QE1 and QE2 to passively unwind through maturity and suggests that the Fed will have to implement an active exit strategy.

Finally, Lockhart believes that economic analysts and forecasters ought to return to paying close attention to the monetary and credit aggregates and money measures for signs of inflation creeping into the economy.