As I read the latest round-up of comments by Fed officials that they are certainly not ruling out another round of asset purchases I am wondering whether this signals another round of actual quantitative easing by the Fed or whether investors should change their mindset back to before the crisis where it wasn't the USD that acted as the global carry trade funder but rather the JPY (or maybe the GBP here?).
Fed Vice Chairman Janet Yellen said yesterday that a third round of large-scale asset purchases "might become appropriate if evolving economic conditions called for significantly greater monetary accommodation." A day before, Governor Daniel Tarullo said buying mortgage-backed securities "should move back up toward the top of the list of options."
They join Charles Evans, president of the Chicago Fed, and Boston's Eric Rosengren in calling for consideration of further stimulus to boost growth and bring down a jobless rate stuck around 9 percent or higher for 30 months. A stock-market rally and gains in manufacturing and retail sales may convince the Federal Open Market Committee, which meets Nov. 1-2, to decide that it's too soon for a third round of bond purchases.
You see, the recent initiative of the Fed in the form of Operation Twist is not quantitative easing since it does not involve an expansion of the balance sheet. In stead, it is what we refer to as qualitative easing as the bonds the Fed intends to buy on the long end (to move long rates down to help the mortgage market) will be paid for by proceeds of selling bonds on the short end.
The biggest problem for the Fed here is not necessarily that Operation Twist is a bad idea. Indeed, to the extent that it fixes the effort squarely on halting the slide in the housing market and supporting volume and price in the primary and second market for mortgage securities I think it is an excellent idea.
But we are forgetting the auxiliary objective of QE by the Fed; to weaken the USD. Make no mistake that this is an important objective for the Fed even if they have never declared this formally. And herein lies the rub. Quite simply, with the recent announcement by the BOE of another round of QE worth £75 billion, with the ECB now willingly or unwillingly being forced into increased support of peripheral debt markets and with the BOJ also pledging more stimulus, the Fed is starting to look like the conservative central bank in the G4. (1).
In my opinion, this is very significant and also one of the reasons why Fed officials are busy ensuring markets that they have plenty of ammunition left should economic conditions merit it. But investors should not take anything at face value I think. Before the Fed actually starts to buy those MBS and/or moves to lower interest rates on excess reserves there is a real chance that especially the JPY will start to act more like the JPY of old, a.k.a global carry trade anchor of choice.