Fed Vice Chair Janet Yellen
Everyone on Wall Street is talking about when the Federal Reserve will begin to taper its quantitative easing program after the FOMC shocked markets by refraining to do so at the conclusion of its September policy meeting.
In fact, lately, the conversation is turning to whether the Fed will taper at all.
One possibility that virtually no one on Wall Street is talking about, though, is that the central bank actually elects to increase quantitative easing.
Société Générale managing director and head of U.S. interest rate strategy Mary-Beth Fisher asserts today, however, that the scenario in which the FOMC announces an increase in QE at its October policy meeting next week is "not a possibility we can ignore."
Fisher explains in a note to clients:
In retrospect the decision not to taper seems a prescient choice by the FOMC. Unfortunately, there has been no “continuing improvement” since the last meeting. Moreover, the fiscal uncertainties became a near-fiscal disaster, one that will weaken the October data and lingers on the horizon for Q1 2014.
The question now may very well be whether or not the FOMC will choose to increase asset purchases at the next meeting, or whether it will include language in the FOMC statement that indicates they are strongly considering the option. A simple interim solution would be to reinsert the language that appeared in the May through July FOMC statements that “the Committee is prepared to increase or reduce the pace of its purchases to maintain appropriate policy accommodation as the outlook for the labor market or inflation changes.”
Fisher pegs the chances of bigger QE at 10%, " with full disclaimer that our economics team thinks this probability is closer to 0.0001% and that your author is nuts!"
In that case, she says the yield on the 10-year U.S. Treasury note could go to 2.00%, and "t he bull flattening of the Treasury curve will run us all over."
Of course, the Fed has a lot of reasons not to announce such a move, as Fisher fully acknowledges.
"The potential downsides to increasing asset purchases would be that (1) the market would assume the FOMC was focusing on a very grim economic picture; (2) the perceived risk of inflating asset bubbles in various market segments would rise; and (3) the FOMC may run into a credibility problem (again) by whipsawing the market," she writes.
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