(By Kevin Donovan) The market has come around to our view that the Federal Reserve is inclined to embark on another voyage of balance sheet expansion in an attempt to jolt the economy out of the horse latitudes into brisker breezes; we expect Quantitative Easing 3 to be launched by the Fed at the conclusion of its Open Market Committee meeting Wednesday.
Doubt that the Fed would act was the prevalent assessment after the prior FOMC meeting announcement and release of the meeting's minutes, but we argued at the time that the Fed was duty-bound to act and would if unemployment didn't budge. It hasn't and the Fed will.
Now, whether it will do any good is another question, and how the stock and bond markets will react to the fact as opposed to the expectation is best left to gurus such as our own Rich Bieglmeier to sort out. Without doubt, though, expectations the Fed would act and the European Central Bank president's profession of undying love for the Euro sent equity prices sharply higher last week.
The economic data were mixed, but the weak sisters won the day, igniting expectations the Fed was poised to move. The housing sector, which had been a relatively bright spot, disappointed as new home sales and pending home sales slowed. And even though second-quarter gross domestic product growth was in line with expectations at a 1.5% annual rate, the slowdown from the revised 2.0% rate in the first quarter plainly tells policy makers that economic activity is going in the wrong direction if jobs are to be created.
Fed Chairman Ben Bernanke has said the central bank was ready to act if the evidence showed employment lagging. We think he's as good as his word. Interest rates are as low as they've ever been, Operation Twist has been extended, and the government debt market is plainly signaling economic weakness.
Fresh evidence should come Friday with the release of the July jobs report. Economists polled by news organizations expect nonfarm payrolls to have increased about 100,000 in the month, not any great shakes. What's more the jobs numbers have fallen short of expectations the first two months of summer. And as we have facetiously noted before, the trend will continue until it doesn't.
Before the monthly anxiety attack inflicted by the Bureau of Labor Statistics, the July diffusion index from the Institute of Supply Management will be released Wednesday morning before the FOMC announcement. Recall it was the ISM's June report that caused such angst with a reading in negative territory, indicating contraction in the manufacturing sector.
Meanwhile, inflation is not a concern. And the Fed won't let higher food or energy prices stand in its way. The Fed can rain dollars, but it can't shower America's corn crop with the wet stuff.
Those who think the Fed won't act because it doesn't want to appear political in a political season are wrong. The Fed has the perfect cover – it's the goal of full employment that it is bound by law to attempt to foster. An 8.2% unemployment rate is far from that goal.