The more the Fed changes, the more it stays the same

The Federal Open Market Committee is going forward with its highly anticipated quantitative easing, version 2. The program announcement should not be a shock, except that the secondary market participants were banking on a Treasury focus. It’s still not quite certain that’s what they got. “Fear that the Fed may whisper the word ‘mortgage’ initiated the emergency MBS buy and hold program,” joked an MBS trader in a mass e-mail. At least now interest rates are likely to remain intact until at least Dec. 14, and the Fed will start the cash pump with $600 billion in Treasury purchases. But what’s interesting behind the decision is that there is an increased likelihood that QE2 may do nothing, or worse, more harm than good. For instance, the $600 billion is scheduled to be purchased over a nine-month period – hardly a shot in the arm. And as far as the interest rate announcement, how many first-time home-buyers or refinancing borrowers will benefit as underwriting remains thoroughly restricted? More importantly, will the ultimate end of QE2 meet its purpose — that is, to prop up the ailing economy? Shall we expect more jobs, loans to smaller businesses and higher wages? Of course when the Fed realizes this isn’t happening as a result of QE2, it will more likely up the ante rather than fold its hand. So don’t be surprised if the Fed decides to buy more than what is currently allotted, even though some clear negatives are emerging. Christopher Whalen of Institutional Risk Analytics warns that “QE2 is taking more duration out of the market, so it hurts yields,” according to an e-mailed response to HousingWire. “I think shrinking net interest income/margin will be a top issue by 1Q 2011 for all interest-sensitive investors.” Analysts at Deutsche Bank also speculate why the Fed didn’t try a new approach. Considering the marginal impact of the first quantitative easing initiative, it is not such a bad consideration. “The Fed could eliminate the supplementary finance program, which had been designed as a measure to drain reserve,” they write, or “a bias statement could be introduced that would guide the market on future changes in the rate of QE buying.” Despite the hints of some instability in the bond markets, any reaction is a minor hiccup. This, of course, can be seen as added credibility to the Fed, its policies and its chairman, Ben Bernanke. But I often argue that it is a mature market, and not subject to negative long-term downtrends. QE2 does not address putback risk, nor will it incentivize the release of large stockpiles of cash by banks into the credit markets. The Fed may have voted for QE2, with Thomas Hoenig, of the Kansas City Fed, dissenting as usual, but it has done little to ease the agony of most Americans, and may even keep the economy artificially imbalanced as a result. Jacob Gaffney is the editor of HousingWire. Write to him.