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Thursday, October 28, 2010

Approaching the Zero Bound

"An Attempted Hypodermic
Straight to the Economy’s Heart"

A fascinating, even feverish dialogue is taking place right now -- joined by some of the financial world's most influential thinkers -- concerning what will happen next week, and what economic consequences will flow from that outcome.

The elections next Tuesday?

Try, the Fed's much-signalled intention to initiate another round of quantitative easing (also called "printing money") when it meets next Wednesday.

Here is Bill Gross' take, from his perch at PIMCO, the nation's (world's?) largest investor in bonds:

Quantitative easing is temporarily, but not ultimately, a bondholder’s friend. It raises bond prices to create the illusion of high annual returns, but ultimately it reaches a dead-end where those prices can no longer go up. Having arrived at its destination, the market then offers near 0% returns and a picking of the creditor’s pocket via inflation and negative real interest rates.

--Bill Gross, "Run Turkey, Run"; PIMCO Investment Outlook (Nov., 2010)

So why do it?

Because the Fed, caught in a liquidity trap, is out of other options.

Gross again:

Ben Bernanke can’t raise or lower taxes, he can’t direct a fiscal thrust of infrastructure spending, he can’t change our educational system, he can’t force the Chinese to revalue their currency – it (more quantitative easing) is all he can do.

--Bill Gross

Will "it" work?

Gross, whose credentials are as good as anyone's, thinks the jury's out.

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