Easy Money

Financial services industry reacts to the Fed’s newest quantitative easing program

By Andy Meek

When the Federal Reserve announced a few weeks ago its newest – i.e., third – round of quantitative easing intended to once again try to juice a sluggish economy, an employee of FTN Financial couldn’t resist a metaphor for the Fed’s open-ended commitment.

Federal Reserve Chairman Ben Bernanke has issued a third round of quantitative easing – the so-called QE3, or QE-infinity – in hopes of sparking the still-struggling U.S. economy.

(AP/Manuel Balce Ceneta)

As relayed by Chris Low, chief economist for FTN Financial, which is the capital markets subsidiary of Memphis-based First Horizon National Corp., that employee described the central bank as cruising joyfully down the highway. And it is allowing itself to stop for donuts whenever the economy needs a sugar rush.

“The flexible, open-ended approach to QE3 could result in a great deal of confusion, and market volatility, going forward,” Low said in a recent commentary distributed to FTN clients.

The central bank’s plan, dubbed QE3 and announced last month by Fed chairman Ben Bernanke, is to hold interest rates down for a few more years by buying huge sums of long-term assets indefinitely, adjusting the program as the nation’s unemployment rate ebbs and flows.

Meanwhile, investors presumably will see no place else to take their money but the stock market and other short-term assets. If it goes according to plan, the stock market improves. Voila, the so-called wealth effect. People feel richer. People spend more. A virtuous cycle takes hold, and the economy improves.

Unless it doesn’t.

Critics of the Fed’s move, and there are plenty right here in Memphis, see the Fed’s actions on the “monetary” side of the equation and the federal government’s attempts at stimulus on the “fiscal” side of the equation as one interrelated thing, a kind of single economic boogeyman. To them, it’s all the same, these artificial efforts to jump-start an economy that can’t seem to get there on its own.

It’s like a drowsy person who drinks a cup of coffee to get a little jolt, one argument goes, and then keeps on gulping down the java. That coffee fiend, some Fed observers say, can’t keep doing that forever without lasting harm, and neither can the government.

Fed analysts and critics express that analogy in different ways. Josh Brown is a New York City-based investment adviser who regularly appears as a commentator on CNBC. He also runs a feisty Twitter account mostly featuring his thoughts about finance.

“So crazy, woke up this morning and found $750 in cash under my pillow,” Brown tweeted, tongue-in-cheek, the day after the Fed announcement. “A note read ‘from Ben.’ Central banking RULEZ!”

Setting aside the medicine for a moment, there’s no doubt that in Memphis the economy could use improvement in some areas, according to the Fed. The Federal Reserve’s latest “Burgundy Book” – a region-specific complement to its “Beige Book” – shows that the Memphis metro area’s economy is performing “better than the nation in some aspects but worse in other respects.”

“In terms of employment growth, Memphis has performed similar to the nation,” the report reads. “Housing activity in the Memphis area thus far in 2012 has been much stronger than the nation’s pace of activity. At the same time, house prices over the past four quarters have declined a bit more in Memphis than for the nation, and Memphis’ unemployment rate remains higher than the nation’s rate.”

QE3 is being derisively referred to among some critics as QE-infinity, citing the open-ended nature of the Fed’s commitment.

On his company’s most recent earnings conference call with analysts, FedEx founder Fred Smith made a passing reference to why he sees the cost of fuel going up, something he laid squarely at the feet of the Fed’s “money printing.” (Money printing is a colloquial term for what the Fed is doing, although quantitative easing generally involves electronically adding to bank reserves as opposed to printing gobs of green paper.)

Said Smith, “I mean, as the Fed puts more money out there, people put more money into commodities and drive the price up.”

Robert Trimm, chief investment officer for Memphis-based Legacy Wealth Management, is not a fan of the Fed’s program. He believes that because the Fed has been open about its intentions for a while now, market participants have had time to adjust their behavior based on what they think the Fed will do next.

“I would (compare the situation) to the overuse of antibiotics to kill certain bacteria. Eventually, bacteria can become resistant to what is thought to be the cure.
I fail to see why forcing additional resources in a market (like real estate) that actually should command fewer resources will ultimately improve economic conditions. Hence, I believe the effect will ultimately be less than what is expected. Sometimes, like with antibiotics, less is more.”

– Robert Trimm
Chief investment officer, Legacy Wealth Management

“I would (compare the situation) to the overuse of antibiotics to kill certain bacteria,” Trimm said. “Eventually, bacteria can become resistant to what is thought to be the cure.

“I fail to see why forcing additional resources in a market (like real estate) that actually should command fewer resources will ultimately improve economic conditions. Hence, I believe the effect will ultimately be less than what is expected. Sometimes, like with antibiotics, less is more.”

Scott Stafford, president and CEO of Evolve Bank and Trust, put his thoughts on the Fed’s move this way.

“QE3 continues to highlight the Fed’s commitment to maintain low mortgage rates for the foreseeable future,” Stafford said. “The Fed believes that one of the best ways to ignite the economy is to promote and support the housing market.

“Most economists believe that the housing market makes up approximately 25 percent of the economy. If the unemployment rate begins to drop, expect housing to improve. In some markets, we are already seeing multiple purchase offers for properties as many prospective buyers have been on the sidelines for the past few years. These low interest rates should keep the refinance market strong well into 2013.”

Jim Bullard, president of the Federal Reserve Bank of St. Louis – the Fed regional district that encompasses Memphis – was in Memphis in recent days to speak to the Economic Club of Memphis. His comments were eagerly anticipated, partly because in the days after the QE3 announcement Bullard told the Reuters news service that not only did he think the Fed shouldn’t have pulled the trigger on its new move when it did, but he’s concerned about the Fed sparking inflation.

So much so that Bullard supports a push from congressional Republicans to strip away one plank of the Fed’s constitutional mandate – to promote “full employment” – and for the Fed to focus exclusively on the other side of its mandate, price stability. Or, in other words, preventing runaway inflation.

One of Tennessee’s two Republican U.S. Senators, Bob Corker, has been a vocal proponent of ending the Fed’s dual mandate.

“Anything that the Fed does is going to only have temporary effects,” Bullard told Reuters. “We have to get back to that notion. Too much is creeping in about the ideas of permanent trade-offs, which I regard as a misunderstanding of what monetary policy could do. So I would back going to a single mandate.”

Regarding Bullard’s Memphis speech, one local investment firm president told The Memphis News that, while he would be unavoidably out of town for Bullard’s speech, his firm would have no less than four representatives present to hear what the regional Fed president had to say.

In a recent commentary circulated to clients, Low said Bernanke was peppered with questions during his press conference announcing the Fed’s move.

“Yes, QE might result in lower mortgage rates, but will it lower the unemployment rate?” Low wrote. “It’s a valid question. Everyone has probably seen the graphs … showing stocks and bonds through the Fed’s various extraordinary programs. Bond yields fall before and after QE, but rise during. And stock prices rise before and during, but fall after. And the dollar typically gets shellacked (yes, that’s the technical term) by 10 percent to 15 percent.

“All that said, the market impact of QE is not very well understood, in part because each QE round has targeted different assets, has differed in size and has been implemented against a different economic and market backdrop. And, perhaps most important, investor reactions have evolved as people start to anticipate what happened over the course of each QE round in the past.”

Even the program’s chief evangelist, Low noted, couldn’t seem to muster a wholehearted endorsement.

“The economic impact is not well understood, either,” Low said. “Even Bernanke, when asked if QE3 would help the job market, said it can’t hurt. That’s not much of an endorsement, but it was the best he could say for sure.”