Downside of Fed Qualitative Easing?

Quantitative easing is the name given to ambitious programmes, run by several central banks, which aim to boost liquidity through the purchase of (mainly) government bonds. Funds are pumped into the financial sector as commissions due on the purchases and the hope is that these fees can then be lent out to businesses thereby allowing them to expand and stimulate the economy. An additional benefit is that by creating a steady market for government bonds, yields are kept down, reducing the cost of government borrowing.

The US Federal Reserve has stated its policy of buying $85 billion of bonds and mortgaged-backed securities will continue for the foreseeable future, until the job market improves significantly. However, minutes of a January meeting of the Federal Reserve have called this commitment into doubt. Some members feared that the programme could lead to increased inflation or might “foster market behaviour that could undermine financial stability”. The programme is under review to evaluate its effectiveness and the minutes revealed that a number of participants thought that the review “might well lead the committee to taper or end its purchases before it judged that a substantial improvement in the outlook for the labour market had occurred”.

In many quarters, the bond support programme has been seen as a key reason for the rally in the US stock markets; consequently, news that the continuation of the policy has been questioned has led to a sharp fall in market value with knock-on effects in other major markets.

The US Dollar has risen against the Euro, partially on the news that QE activities could be scaled back and partially because of gloomier news emerging from Europe in the shape of a Markit Eurozone purchasing managers’ index which showed confidence declining from January’s level of 48.6 to 47.3 on this month’s reading.