Fed’s bond-buying plan faces new assault by critics

This article was originally on a blog post platform and may be missing photos, graphics or links. See About archive blog posts.

A group of economists and well-known Wall Street figures has launched a public attack on the Federal Reserve’s plan to pump another $600 billion into the financial system, and is calling for the central bank to halt the program.

The campaign could further rile global financial markets, which suffered a sell-off on Friday sparked by fears that China will boost interest rates further to battle rising inflation.

In an open letter to Fed Chairman Ben S. Bernanke, to be published in ads in the Wall Street Journal and the New York Times this week, the group said the Fed’s planned purchases of $600 billion in Treasury bonds by mid-June ‘risk currency debasement and inflation, and we do not think they will achieve the Fed’s objective of promoting employment.’

The Journal, reporting on the ads late Sunday, said the group had been coordinating with Republican leaders.

‘The economists have been consulting Republican lawmakers, including incoming House Budget Committee Chairman Paul Ryan of Wisconsin, and began discussions with potential GOP presidential candidates over the weekend, according to a person involved,’ the Journal said.

The 23 letter signers include economists Michael Boskin of Stanford University, Kevin Hassett of the American Enterprise Institute and Gregory Hess of Claremont McKenna College; Cliff Asness, head of hedge fund giant AQR Capital; James Grant, editor of Grant’s Interest Rate Observer newsletter; and Jim Chanos, head of Kynikos Associates, one of Wall Street’s best-known ‘short’ sellers.

‘We believe the Federal Reserve’s large-scale asset purchase plan . . . should be reconsidered and discontinued,’ the letter says. ‘We do not believe such a plan is necessary or advisable under current circumstances.’

The Fed announced the bond-purchase plan on Nov. 3, after telegraphing since August that it planned to do more to help boost U.S. economic growth and lessen the risk of deflation. By creating money from thin air and buying Treasuries the central bank hopes to keep long-term interest rates depressed, while also pushing more cash into the financial system -- hoping the money will end up in new business or consumer loans or productive investments.

But the plan, known as ‘quantitative easing’ or QE, has stoked controversy inside and outside the Fed. Critics say the central bank risks pumping up asset bubbles worldwide with another round of easy money, and that the policy could eventually drive up U.S. inflation well beyond the modest increase Bernanke has been hoping for.

Dallas Fed President Richard Fisher on Friday suggested that a bubble already was building in corporate takeovers by private-equity firms.

Major U.S. trading partners including China, Germany and Brazil also have attacked the Fed’s program. China and other fast-growing emerging markets already are facing inflation pressures. And much of the rest of the world sees quantitative easing as another attempt to drive down the value of the dollar by flooding the world with more greenbacks. A weaker dollar could help U.S. exporters but at the expense of their foreign competitors.

U.S. stock, bond and commodity markets had rallied sharply in September and October, anticipating the Fed’s QE plan. But on Friday markets sank, led by commodity prices, after China said its inflation rate reached a two-year high, boosted by food costs. That raised the specter of further interest-rate hikes by China’s central bank, which could slow an economy that has been an engine of world growth.

The markets also have been throwing the Fed another curve: While the goal of QE is to keep longer-term interest rates depressed, market yields on Treasury, corporate and municipal bonds jumped at the end of last week even as the Fed’s Treasury-purchase program ramped up. The 10-year T-note yield rose to 2.75% on Friday, up from 2.65% Thursday and the highest since mid-September.

If investors continue to dump bonds it could indicate they’re afraid that QE could in fact lead to significantly higher inflation, which would be ruinous for owners of fixed-rate bonds.

-- Tom Petruno