When Will the Fed Pull the Plug on QE?

After several years of record low interest rates and quantitative easing programs, speculation is rising on when the Federal Reserve will pull the plug on its huge monetary experiment.

The rumored WSJ article from Jon Hilsenrath — long considered to be the Fed’s mouthpiece — made headlines over the weekend. The piece arrived one day later than expected, but it confirmed that the central bank is working on a plan to tamper its monthly bond purchases.

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Hilsenrath writes, “Federal Reserve officials have mapped out a strategy for winding down an unprecedented $85 billion-a-month bond-buying program meant to spur the economy — an effort to preserve flexibility and manage highly unpredictable market expectations. Officials say they plan to reduce the amount of bonds they buy in careful and potentially halting steps, varying their purchases as their confidence about the job market and inflation evolves. The timing on when to start is still being debated.”

Interestingly, the statement comes just weeks after Hilsenrath wrote, “The latest reading on consumer prices could give the Federal Reserve a new reason to keep its easy-money policies intact. Inflation shows signs of slowing. If inflation readings are low, the Fed might feel it has more leeway to try to stimulate economic growth.”

It is important to note that the Federal Reserve will not be yanking the money-printing plug all at once. Instead, it will likely be done very slowly, and not at all if the economy weakens more. The central bank has purchased more than $2 trillion in securities and cannot risk a loss of confidence in a stock market that seemingly makes new all-time highs every other day. Furthermore, the exit plan is still being debated, so investors should not hold their breathe for a quick exit. The general perception is still mixed regarding when the central bank will slow bond purchases.

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According to an April Fed Survey conducted by CNBC, 40 of 46 respondents believe asset purchases by the central bank will continue at least until next year. On average, respondents such as economists and fund managers see the Fed buying $370 billion in assets in 2014. In comparison, the average this year stands at $936 billion.

Meanwhile, a Reuters poll expects the Fed to buy $1.25 trillion of assets with its latest programs. All 15 of the primary dealers — the large financial institutions such as JPMorgan Chase (NYSE:JPM) and Goldman Sachs (NYSE:GS) that deal directly with the Fed — said the central bank will reduce asset purchases before terminating them. The majority of primary dealers expect asset purchases to continue into 2014.

However, more than half of the 49 economists in a WSJ survey believe the Fed will begin to cut back on bond purchases by the end of this year. Of those polled, 30 percent predict the Fed will start the reductions in the third quarter, while 25 percent say the central bank will wait until the fourth quarter.

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