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Fed shines, clouds are parting

By Bob Landaas

Just as we thought, the Fed has launched its latest round of quantitative easing – buying mortgage bonds and other assets until the job market improves.

This third round of quantitative easing is different from the first and second in that it’s open-ended and it’s not as much. The Fed was spending up to $100 billion a month in QE1, $75 billion a month in QE2, and now QE3 is $40 billion a month.

And Fed officials are not putting a deadline on this one. They’re just going to keep buying longer-dated mortgages until the job market improves.

The Fed’s intention is to bring down the intermediate- and longer-term rates. With the overnight rate, the Fed can really only control the short-term rate. And though rates are low, they’re still a little bit higher than desired on the intermediate- and long-end of the yield curve. The Fed is going to try to reduce the steepness of the curve by bringing down the intermediate and the long rates.

This monetary boost comes as the economic headwinds are dissipating.

At the beginning of the financial crisis four years ago, the banks were melting down. We had no markets. Because of the TARP program and other stimulus programs from the government, the financial crisis really abated in 2009. The stress tests near the end of that year showed that the banking system was back to normal.

Read more
Bob writes about his expectations for a no-yield world. Click here.

The second headwind that is dissipating is consumer debt. We went into this downturn with record levels of consumer debt relative to GDP. We lowered it three ways. Two of them were painful: bankruptcy and foreclosures. But also, people have been slowly de-leveraging by paying down their debt.
Remember, consumer spending drives 70% of economic growth. So while people were trying to pay off their credit cards and their home equity lines, they didn’t have that money to spend. That slowed the economy down. For every dollar spent on debt repayment, that’s a dollar that doesn’t go into the economy.

But we have made huge inroads in reducing consumer debt, particularly as a percentage of GDP. In July, we finally saw that consumer debt went down but retail spending rose the most in five months. We’re half to two-thirds of the way through de-leveraging.

The third thing that really held us back in this recession was the housing bubble. The bankers and regulators got it totally wrong. We had built way too many houses. The banks lent way too much money.

And the fact is that every other economic recovery in this country’s history has been led by housing. That was impossible this time around. It couldn’t happen. We had too many houses.

Now we’re finally seeing the light at the end of the tunnel. We saw a collapse of new-home construction in the last five years, so that reduced the inventory, and we don’t have that huge burden of housing inventory holding us back. We’re slowly, finally emerging from that.

The fact is that four years after the financial crisis, we’re slowly getting to a point where what’s really been holding us back is starting to dissipate.

So I see the Fed action as critically necessary at a turning point for the economy.

I’m going into this new year feeling really good about profits and earnings. And, my goodness, the Fed said it is not going to raise interest rates now until the middle of 2015 – at the earliest.

We have a three-year window now, give or take, where we don’t have to worry about the overnight rate. We have three years before we have to start sweating about rate increases.

Bob Landaas is president of Landaas & Company.

initially posted Sept. 25, 2012

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