It’s been nine years since the U.S. central bank launched its quantitative easing program. Also, the U.S. stock market recently celebrated eight years of the bull run. That’s obviously not just a coincidence.
The Federal Reserve’s quantitative easing programs, initiated in December 2008, has played a major role in stimulating the U.S. economy. Apart from rescuing it from the ravages of the 2007-09 financial crisis that was marked with stock market downturns, foreclosures and prolonged unemployment, the boost in cheap liquidity from the rather unconventional monetary policy drove up stock and property markets, while bringing down bond yields. Today, the stock market indices are pushing further into record-high territories almost daily.
As consumer spending continues to grow on a recovering jobs market, low interest rates, strong U.S. dollar and cheaper fuel, the world’s largest economy may have more leg to run in 2017. However, even as we cheer the eighth birthday of the U.S. bull market, some investors are concerned that the conclusion of Fed’s unprecedented program of liquidity infusion might unnerve the market.
Fed’s Plans for Balance Sheet Normalization
With the Federal Reserve’s expansionary monetary policy providing the U.S. economy its much-needed impetus, the agency has now announced the beginning of the slow, long-drawn timetable to unwind its massive $4.5 trillion balance sheet. The Fed plans to commence the procedure in October with reductions of a modest $10 billion each month through December. The rate would then go up by $10 billion every quarter so as to reach a cap of $50 billion in October 2018. Also in the offing is another hike in the short-term interest rates, which could take place in December this year.
The tightening of the monetary policy usually preludes weak demand, contraction of corporate earnings and a possible stock market correction. While the potential negative drag from a strong dollar on overseas profits and geopolitical concerns regarding the North Korean regime remain key concerns, a rapid unwinding of Fed’s holdings is the last thing the U.S. economy needs.
