In what will be Ben Bernanke’s last meeting as chairman of the Federal Reserve before he steps down at the end of the month, the Fed has announced that it will continue with the “Taper” this month by withdrawing a further $10 billion from its monthly asset purchase programme. The aim of the programme was to inject liquidity into the US economy and to keep the cost of government borrowing and mortgages low. At its height, the programme saw $85 billion invested in asset purchases each month (the liquidity provided to the economy stems from the commissions paid to financial firms associated with the purchase of these equities). With the latest “Taper” the monthly asset purchase has been scaled back to $65 billion.
There is concern, justified or not, that interest rates will rise and that this will harm developing markets. The logic behind this seems to be that a sizeable amount of the liquidity generated in the US (and elsewhere) bled through to investments in these markets. Presumably, when the tap is turned off, this money will be repatriated after profit taking. The exactness of this statement is hard to judge, but often, markets are driven by rumours in any case.
A further factor driving falls in some developing markets is the volatility that a number of foreign currencies, notably the Turkish Lira and Argentinian Peso, have experienced recently. In a bid to generate currency stability (or at least slow depreciation) the Turkish and South African authorities have increased their interest rates. Major world markets have also lost ground with the Dow Jones slipping by 1.2% after the (anticipated) Fed announcement; the Nikkei fell by 3% during Thursday’s trading day.
US employment figures are (broadly) heading in the right direction and inflation is under control, so there is no immediate reason why interest rates will rise from their historic lows. However, quantitative easing measures are extraordinary monetary policy and cannot be allowed to continue indefinitely for fear of undermining belief in the financial system itself – in essence, money is being created with the purpose of calming the markets and restoring growth. Past experiences with “printing money” have ended in tears with the creation of hyperinflation.