The good, the bad and the ugly

I woke up today and read the news: “P311-M lotto pot: Still no winner.” I couldn’t help but reflect on the power of magnetism; money begets money. The more you have, the more you attract. From the everyday Joe to sophisticated stock traders, the lotto represents not just one’s ticket to fortune but a modern form of acceptable taxation. Collect voluntary contributions from millions of people, and distribute the massive amounts of proceeds to the top 10 people. I know some very successful and wealthy people who buy a lotto ticket a day. Is it because of their hopes of winning or their innate desire to somehow give back to the system that made them?

The movement of money and its behavioral effects on people has always fascinated me. I think it is important for entrepreneurs to understand the latest move by the US Fed to stimulate the US economy. They are calling it “quantitative easing,” which is essentially a US$600-billion asset purchase plan that is meant to ease interest rates and increase the amount of money in the system. This monetary policy causing an increase of money in the system is meant to fuel growth in the US and the rest of the world. I’d like to break this down for everyone:

What exactly is the Fed doing?

The US Fed announced that it would purchase an additional $600 billion in US treasuries/securities at a budget of about $75 billion per month. Simply put, the US government is printing money to buy up/buy out its own paper in the market.

Why are they doing this? What are the objectives?

Quantitative easing is designed to push down interest rates across the board, including any debt market closely tied to the US treasury rate. Keep in mind the US treasury rate is the base “risk-free rate” used by both US and non-US investors.

The immediate desired effect this will have on the US is with interest rates further going down, a large percentage of homes will be able to refinance at lower rates. By providing lower cost and “easier” credit to the housing market, it will allow US households to renew mortgages at better terms, and free up more disposable income among that same group of people. The economic multiplier could be in the trillions of dollars.

It will most likely lead to an inflationary effect on the real estate asset class, which means borrowers’ properties will be worth more, yet they can borrow at lower interest rates. Abracadabra. Crisis is over or so we theorize.

Businesses (particularly small and medium-size enterprises or SMEs) will be able to benefit from this mini-credit boon by borrowing at a lower interest, and more businesses will be able to qualify for loans as there is more money in the system looking to be lent to people willing to borrow. The thing is there are 600 billion more fish in the sea. Time to go fishing.

Last but not least, the Fed buying US treasuries will push investors to stocks, corporate bonds, commodities and/or other asset classes. Again with more money flowing into the economy, this should lead to economic growth. The increased supply of money will theoretically devalue the dollar, which will help US exporters.

Any potential risks or issues with this monetary stimulus?

We have seen this before. Easy credit leading to artificially fueled asset inflation and spending which created the bubble that culminated in the credit/financial crises in 2008 and 2009. I’d like to think, though, that in concept, this monetary policy works, and it will certainly pave the way for the US economy to recover. The Fed will have to watch the situation closely and once the economy has recovered it will have to suck the money back out (presumably by raising interest rates) to prevent inflationary surge and asset bubble creation.

What effect will this have on the rest of the world?

A strong US economy is good for the world. The US is the world’s biggest consumer. A recovery there will help China, ASEAN and everyone. The increased supply of money in the US will undoubtedly lead to more “hot money” traveling through the global financial system as capital looks for better returns. Most fund managers are looking to Asia in the search for growth. Asian economies are performing much better than the West. This will prop up Asian currencies (due to the devaluation of the dollar), support various asset classes in Asia (fixed income, stocks, real estate) and provide at the very least a temporary shot in the arm.

So these are, at least, the hopes and objectives of “quantitative easing.” I do recall a saying, though, coined by a famous US rapper that said “Mo’ money, mo’ problems.” Somehow I do get the feeling that the party has started, the booze is flowing, people are feeling good but somewhere down the road someone, somehow, will have a hangover. Let’s hope this time around it will be an acceptable amount of pain and not the system-wide crash we saw in 2008 and 2009. So while the music is playing I end this article by telling all the entrepreneurs out there the Latin phrase “carpe diem.” Seize the day while the sun is shining.

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Any comments? Please e-mail me at egtheplayer@gmail.com.