Bernanke’s QE2 Averts Deflation, Spurs Rally, Expands Credit

Bloomberg:

Ben S. Bernanke’s $600 billion strike against deflation is paying off, as stock and debt markets rise, bank lending grows and economists forecast faster growth.

The Standard & Poor’s 500 Index has gained 13.5 percent since the Federal Reserve chairman announced on Nov. 3 the plan to buy Treasuries through its so-called quantitative easing policy. Government bond yields show investors expect consumer prices to rise in line with historical averages. The riskiest companies are obtaining credit at the cheapest borrowing costs ever and Fed data show that commercial and industrial loans outstanding are rising for the first time since 2008.

“Looking at market indicators, you have to be convinced it’s been a success,” said Bradley Tank, chief investment officer for fixed-income in Chicago at Neuberger Berman Fixed Income LLC, which oversees about $83 billion. “When you get into periods of aggressive central bank easing, and we’re clearly in the most aggressive period of easing that we’ve ever seen, the markets tend to lead the real economy.”

The Fed said last month it won’t need to extend the $600 billion buying program beyond its scheduled end next month. Payrolls expanded by 244,000 in April, the biggest gain since May 2010, after a revised 221,000 increase the prior month, the Labor Department said May 6. The jobless rate climbed to 9 percent, the first increase since November, a separate survey of households showed.

‘Stopped the Hemorrhaging’

“We are starting to see the impact, albeit slowly,” said Jim Sarni, managing principal in Los Angeles at Payden & Rygel, which oversees more than $55 billion in fixed-income assets. “Theunemployment rate has slowly started to come down. We have a long way to go, but at least it stopped the hemorrhaging.”

Bernanke’s quantitative easing program, dubbed QE2 by analysts and investors because it followed an earlier round of $1.7 trillion in bond purchases in 2009 and the first quarter of 2010, was criticized by officials around the world.

Chinese Premier Wen Jiabao said that the policy would foster financial instability and asset bubbles. Six days after the Fed suggested at its Sept. 21 meeting that it was ready to start buying Treasuries, Brazilian Finance Minister Guido Mantega said governments were engaging in a “currency war.” German Finance Minister Wolfgang Schaeuble called the asset- purchase program “clueless” on Nov. 5 and suggested it was designed to erode the value of the U.S. dollar.

Fighting Deflation

Back in November, the biggest concern for the Fed was preventing a general decline in prices, which can paralyze an economy by hindering investment, as the jobless rate held at 9.5 percent or higher for 14 months. Core consumer prices rose 0.6 percent in October from a year earlier, the smallest gain since records began in 1958, government data at the time showed.

“Measures of underlying inflation are somewhat low, relative to levels that the Committee judges to be consistent, over the longer run, with its dual mandate” of promoting full employment and containing consumer prices gains, the central bank’s Federal Open Market Committee said in a Nov. 3 statement.

Since reaching a 20-month low of 2.18 percent in August, a bond market measure of inflation expectations the Fed uses to help determine monetary policy has risen to 2.87 percent. The five-year forward breakeven rate projects what consumer price increases may be beginning in 2016, smoothing blips in inflation expectations from swings in oil prices and other temporary events.