We shared our thoughts [8]on the implication for more possible QE, sterilized or not, earlier, as did the market: why is risk higher, and with it the threat of inflation, if the Fed is doing perfectly innocuous sterilized easing? Maybe because it does not matter if the Fed intervenes sterilized or unsterilized, as long as the Fed intervenes, period? Now we present the knee jerk reaction of several Wall Street experts, all of whom are about as confused about this development, which is neither here nor there in terms of actually achieving any of the Fed's goals, as we are.
Via the WSJ [9]:
David Ader, CRT: I think this is apropos as BOTH a sense of what the Fed is considering vis a vis QE3 and keeping that hope alive and to acknowledge they’re still musing the topic. As such it’s a heads up that we should expect nothing on this score in next week’s meeting and indeed to suggest they will acknowledge the economic improvement again. But it’s also a heads up that if QE3 is coming they’ll make efforts to limit the negative side, inflation fears. Curiously this could be a bit of a risk-off angle, certainly for commodities.
Fidelio Tata, Societe Generale: It appears that the Fed wants the market to think about the potential of further bond-buying programs, which contradicts the notion that QE3 is off the table.
Brett Rose, Citigroup: I don’t see that this breaks any new ground on QE thoughts. However, it does address the lack of mention of QE in HH last week which several markets reacted negatively to.
Jason Evans, NineAlpha Capital Management: The more specifics that make it into the press and the WSJ the greater the probability of enactment of policy – Fed letting us know that it has more tools at the ready if the oil shock / Iran / Europe becomes an issue.
Carl Lantz, Credit Suisse: The market has been backing off expectations for fresh bond purchases so the Hilsenrath story should be bullish to the extent it signals that the Fed is still actively exploring the options. Sterlized QE would be effective although it raises questions about how the Fed views reserves. If high reserve balances are not a problem why drain those created from a new purchase program? If they are a problem why only drain the incremental reserves while leaving the current large balance in place? The answer seems to be that the Fed doesn’t view reserves as an issue – and I agree – but is worried that some investors have a different point of view and so the Fed is willing to make some concessions to “conventional monetarists”.
Sterlized QE would also tend to push up short-term rates including the Fed funds rate itself potentially further confusing the message. At the end of the day the balance sheet would still growing and stimulus increasing. Its unlikely that long-run inflation expectations would behave much differently under a sterlized or unsterlized program, in my view. The best argument for sterilization may be that it allows the Fed to demonstrate the effectiveness of its reserve-draining tools. This may win over a minority of skeptics that doubt the Fed’s ability to pull back from stimulus down the road.
Joseph Abate, Barclays Capital: I’m a little puzzled with the point of sterilization — however accomplished, either via term deposits, reverses or asset sales. I’m not quite sure what the logic is behind keeping the level of bank reserves constant — other than the fact that the Fed might have some concern about the ability to drain balances when the time comes to raise interest rates. But with $1.6trn in reserves does an additional couple hundred billion dollars really increase the marginal cost of draining them at some point in the future?