Please file this month’s blog under “be careful what you wish for”. Not so long ago, the biggest news in the financial world was The Fed. It’s all we could talk about. What was the Fed going to do? Did they change their outlook on the economy? Did they just say “moderate pace”, or “solid pace”….? And, I remember thinking, “Why can’t we talk about something else?”. Now, the press has a new obsession: President Trump. And, I long for the old days.

So, consider this a walk down memory lane. Or, maybe just a break from the political story du jour. Either way, it’s something that is important to watch and may affect the economy as much as any fiscal policy, with the possible exception of corporate tax reform.

In its latest meeting, the FOMC raised interest rates for the second time this year. This was in line with its projections from late last year. As the Fed tries to thread the needle with monetary policy it walks the fine line between healthy economic growth and extreme inflation in the future. This month’s meeting was interesting for a couple reasons. First, while the Fed did raise rates, recent data have brought into question the next rate hike. Unemployment has reached a multi-year low of 4.3%. However, inflation (as measured by core Personal Consumption Expenditures, or CPE) has been dropping in the last few months. The last reading was 1.54%, well below the target rate of 2% and down from 1.7% at the beginning the year. This makes it less likely that the Fed will go through with its projected third rate hike this year.

Second, the Fed revealed its plan to unwind the quantitative easing (QE) and reduce the size of its balance sheet. This is very intriguing. As you may remember, back in 2008, the Fed started buying government bonds and mortgage-backed securities (MBS). This was a further attempt to keep interest rates low and increase the money supply. By 2012, the Fed was purchasing $85 billion per month in long term Treasuries and MBS to specifically lower longer term rates. This policy went on until December of 2013 when the Fed reduced the amount of purchases to $10 billion per month, and finally ended in October of 2014. Remarkably, the QE program increased the Fed’s balance sheet from about $800 billion to $4.5 trillion in just six years.

By lowering interest rates and purchasing bonds, the Fed was trying to stimulate the economy. Both of these activities promote more borrowing and spending and thus encourages growth. However, the economy cannot sustain this kind of loose monetary policy forever. At some point the economy will overheat and this could lead to runaway inflation. Now the Fed is trying to normalize the economic world by tightening its monetary policy. The trick is that the economy cannot be turned on a dime, so the Fed must allow enough time for its policies to take hold, but pull back on the reins before it is too late.

The key points are that the Fed will reduce its balance sheet by $10 billion per month ($6 billion in Treasuries, $4 billion in MBS). This will be achieved by letting the bonds they own roll off as they mature, i.e. not reinvesting the proceeds. Eventually, this amount will increase to $50 billion per month ($30 billion in Treasuries, $20 billion in MBS). Importantly, they will not be selling bonds which would put added pressure on rates. The unwinding will take several years according to Fed Chair Yellen. However, she would not say how low they want to go. No one really knows how large the Fed balance sheet should be, but earlier this year Former Fed Chairman Ben Bernanke wrote, “Taking currency demand into account as well, it’s not unreasonable to argue that the optimal size of the Fed’s balance is currently greater than $2.5 trillion and may reach $4 trillion or more over the next decade.”*

It has always been hard to imagine that the Fed would be able play this monetary policy game perfectly. After all, the Great Recession was the worst economic slowdown since the 1930’s. And, this level of QE has never been tried before. But so far, it’s looking pretty good. While the economy hasn’t taken off, it is growing. And, the stock market is hitting all time highs. We are just starting to unwind the greatest quantitative easing experiment ever. And, there will be plenty of pitfalls along the way. Stay tuned.

 

*https://www.brookings.edu/blog/ben-bernanke/2017/01/26/shrinking-the-feds-balance-sheet/

Non-deposit investment products and services are offered through CUSO Financial Services, L.P. (“CFS”), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CFS. Verity Credit Union has contracted with CFS to make non-deposit investment products and services available to credit union members.

Gavin Chinn, CFS* Financial Advisor

Check the background of this investment professional on FINRA’s BrokerCheck.

An Investment Advisor registered through CUSO Financial Services, L.P., Gavin has 22 years of experience as an advisor in the Puget Sound area.

“I believe every client is unique and deserving of a personalized financial plan that will help them reach their individual financial goals. Before I make any recommendations, I like to get to know my clients. By asking the right questions, and developing an honest, trusting relationship I can really get a sense of what’s going to work best for them.”

Gavin graduated from the University of Washington with a BA in Business Administration and started his financial career with US Bank in the Investment Department. Prior to joining Verity in 2006, he spent eight years with Piper Jaffray.

So what is Gavin’s vision for his dream retirement?

“My dream retirement would be absolutely worry free: financially, emotionally, and in every aspect of life. My finances would be in order so expenses for travel, luxuries, and gifts for the kids, grandkids, and great-grandkids would be taken care of. My kids would be financially sound, so I would be confident in their prosperity. This would give me the freedom to travel and play and do whatever it is I want to do.”

When Gavin’s not working, he enjoys spending time with friends and family, watching Husky football, and taking weekend trips around the Northwest.

Gavin is registered to transact securities business in the states of WA, OR, CA, AZ, FL, HI, ID, IL, MN, NM, NY and VA.

*Non-deposit investment products and services are offered through CUSO Financial Services, L.P. (“CFS”), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CFS. Verity Credit Union has contracted with CFS to make non-deposit investment products and services available to credit union members.

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