This is the way the Fed ends its easing. Not with a bang but with a whimper.
With apologies to T.S. Eliot, the Fed doesn’t have to end its innovative asset-purchase program with grand announcements and immense bond sales. It could, of course. It could declare the end of quantitative easing tomorrow, and begin selling tens of billions of Treasuries every day to reduce rapidly its $3 trillion balance sheet. Such an approach would overwhelm the markets. There isn’t enough liquidity available to buy the Fed’s supply. Interest rates would spike and global markets would plunge.
So such an approach would destroy the US and world economy. The only asset that might appreciate in such a scenario would be cash, as interest rates would zoom upwards. For obvious reasons, the Fed is unlike to adopt such an extreme approach—“going from wild-turkey to cold-turkey,” as one Fed President has put it.
Instead, they are much more likely to simply reduce their asset purchases gradually, assessing the impact as the current $85-billion / month program goes to $60 billion and then $40 billion and so on. Most of the Fed’s debt matures in well under ten years.
The first step would be to lay out an exit plan and float it publically, as they did recently in the Wall Street Journal. But it took years to adopt our current monetary-policy mix. It’s likely to take years to get out of it as well.
Douglas R. Tengdin, CFA
Chief Investment Officer