Forget the Fed — It Won’t Matter Until 2013

by Jeff Reeves | September 20, 2011 5:43 pm

Federal Reserve Chairman Ben Bernanke will be center stage at the Federal Open Market Committee meeting Wednesday. Will investors be greeted by some big news from Bernanke? Is there a so-called “Operation Twist” in the works?

Highly unlikely. The sad reality is the Fed just doesn’t have a lot of punch left. On top of that, Bernanke and the rest of the Fed are not very interested in making a lot of noise right now as critics sharpen their knives after QE2.

It all adds up to a whole lot of nothing from the Federal Reserve – today, tomorrow, and across every day for the next two years.

Rates Going Nowhere

The Fed funds rate has been effectively zero since December 2008. And for those of you who were listening to Ben Bernanke[1] in early August, it will keep interest rates at record lows until mid-2013. There’s no way that is changing Wednesday.

The federal funds rate is the central bank’s key tool to spur economic growth. And unfortunately, growth isn’t very impressive at all. The IMF just lowered its growth estimate[2] for the U.S. to 1.5% GDP expansion this year and cut the entire globe’s growth prospects from 4.3% expansion to 4%.

The central bank is waiting for a sign that the economy is out of danger before raising rates — and they’ll be waiting for a long time. The debt crisis in Europe weighs on the market, unemployment remains high, housing remains brutalized and consumers are starting to get jittery again.

Until meaningful progress is made on most of these fronts, it’s going to be near-zero rates at the Federal Reserve.

QE3 is Dead In the Water

Some folks think Bernanke will push for another round of quantitative easing. As recently as August — as the bottom was dropping out of the market to the tune of 15% in about two weeks — comments by several Fed officials[3] hinted at another round of “quantitative easing” if the economy continues to deteriorate.

But QE3 has yet to materialize beyond rumors, and the political environment in Washington is not conducive to those efforts. Aside from philosophical arguments about the role of the Fed an long-term inflationary fears, the bottom line is that QE2 was a bust.

After some economists warned of inflation risks (which proved to be true, vis-à-vis the resulting spike in commodity prices) and Republican members of Congress criticized the Fed’s plan as “printing money out of thin air,” any further easing would be troublesome to pull off. Everyone will be saying, “QE2 helped the stock market but did little to lift the economy. Why would QE3 be any different?”

To embark on another iffy voyage of quantitative easing in a hostile political environment — before an election no less — seems highly unlikely.

“Operation Twist” Just a Distraction

Just about the only thing the Federal Reserve can do is the so-called “Operation Twist” of the 1960s that has been making headlines. The effort will involve twisting the yield curve, swapping shorter-maturity government securities for longer-dated ones.

The Fed theoretically will sell its debt with a maturity date of less than three years and buy mostly seven- to 10-year notes — lowering long-term borrowing rates to encourage mortgage refinancing and other borrowing. The program could range from $200 billion to $700 billion.

It’s a novel concept. But will it work?

Like QE2, it could just be the Fed spinning its wheels to avoid looking like it’s doing nothing. Other kinky ideas have been floated as possibilities, but the bottom line is that they are all extraordinary measures — and most are untested or suspect in their impact on the broader economy.

Will There Be Fireworks?

So with a lack of options for policies that actually have punch, investors shouldn’t expect anything new or interesting today.

The only question is whether the Fed will continue to keep up this act or whether we might see more internal squabbles. That’s going to be the real news.

The FOMC had three dissents to its Aug. 9 statement signaling rates might stay near zero for two years. The quantitative easing issue also is divisive.

To top it all off, inflation fears are front-and-center after packaged foods giant ConAgra (NYSE:CAG[4]) reported disappointing earnings[5] — including a 42% drop in quarterly profit thanks to a 15% jump in input costs. Other earnings reports in the coming days might tell a similar story. There was heated debate over the last round of Fed purchases as some warned of a steep spike in commodity prices caused by QE2 that had no real impact on growth. Some talking heads might reopen these old wounds tomorrow to make political hay or offer up juicy soundbites.

But beyond this soap opera of Fed infighting, the news of the day is likely to be more of the same: low rates, a stagnant economy and little the Federal Reserve can do to change things.

Jeff Reeves is editor of InvestorPlace.com. As of this writing, he did not own a position in any of the stocks named here. Write him at editor@investorplace.com[6], follow him on Twitter via @JeffReevesIP and become a fan of InvestorPlace on Facebook.

Endnotes:
  1. listening to Ben Bernanke: http://money.cnn.com/2011/08/09/news/economy/federal_reserve_meeting/index.htm
  2. lowered its growth estimate: http://www.bloomberg.com/news/2011-09-20/imf-cuts-global-growth-estimate-says-europe-debt-woes-may-worsen-outlook.html
  3. comments by several Fed officials: http://blogs.wsj.com/economics/2011/08/03/former-top-fed-officials-signal-support-for-qe3-if-inflation-slows/?KEYWORDS=QE3
  4. CAG: http://studio-5.financialcontent.com/investplace/quote?Symbol=CAG
  5. reported disappointing earnings: http://online.wsj.com/article/BT-CO-20110920-705726.html
  6. editor@investorplace.com: mailto:editor@investorplace.com

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