In April, I wrote about the pending close of Quantitative Easing 2, and a couple of announced transactions that indicated that the Fed may be starting the process of mopping up the liquidity. In June, I followed up with comments from economists on the accomplishments of QE2 and the wisdom of initiating QE3.
Since then we have had an estimated 1.4% growth in the second quarter of 2011, and restated growth of 0.4% in the first quarter. Greece restructured its debt, again, and the U.S. nearly maxed out its borrowing authority and ultimately had its credit rating cut. Markets are fearing a double dip recession. So now, the Fed has committed to maintaining low interest rates through the middle of 2013. And the Fed Chairman is willing to pursue the policy despite dissension on the board of Governors.
This has all the earmarks of panic. The articles I have seen all describe the two-year commitment as unique. the level of disagreement over the policy is unusual. And no mechanism for implementation has been announced. All of these suggest that the Fed desires to be seen as doing something as opposed to having a sharply defined strategy.
It is also an indication that the Fed's concern over deflation is much higher than for inflation. Continued loose money will exert more inflationary pressure on markets. The only question is whether or not that pressure will be overwhelmed by the disinflationary pressure of a weak economy. So far, we have not seen the expected inflation, because pricing weakness, especially in the housing and real estate markets, have offset increasing pricing in the food and energy sectors especially.
Be vigilant. Inflation is always and everywhere a monetary phenomenon. Central banks have a horrible track record in managing the excessive liquidity created in these easing periods. There has been a lot of currency pumped into the economy. Inflation could arrive and wreak havoc on portfolios in the blink of an eye.
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