Q. Some market participants argue that since we are no longer in crisis mode than there is no need for the Fed to maintain such low interest rates. Can you please highlight some of the consequences (both positive and negative) of a tighter Fed?
A. Thanks for your question regarding Fed policy. Our view is that low interest rates are still required – ongoing pressures to deleverage, fiscal restraint, subdued inflation and subpar economic growth all suggest that interest rates will remain low for some time. I am not a fan of QE3 and did write about the various criticisms that can be leveled at this policy. However, I concluded that most of the criticisms had little validity, even though I doubt QE3 has much positive impact on the economy*.
A tightening in Fed policy now would be a mistake unless it was a response to either a breakout in inflation or a much improved economy. Some may argue that higher rates would boost the returns to savers and would signal that the Fed is more optimistic, thus fueling more optimism in the private sector.
Those arguments are not very good reasons to tighten given the weakness of growth.
*We are pleased to provide access to Martin’s September 26, 2012 Special Report: The Fed’s Big QE Gamble: Is It A Huge Mistake?