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Stimulus anxiety up as Fed eases cash supply

Bernanke

– Ben Bernanke has repeatedly warned lawmakers that a fiscal cliff threatens the economy. Now the Federal Reserve chairman has created a precipice of his own.

The Fed on Wednesday extended its Operation Twist program to swap $267 billion in short-term securities with longer-term debt through December. That end date coincides with reductions in federal spending, a halt to payroll-tax cuts and expiration of income-tax cuts enacted under President George W. Bush.

The timing of Bernanke’s easing raises the stakes for the Fed’s four remaining policy meetings this year as investors focus on whether the central bank will provide stimulus for 2013 to help the economy overcome the impact of the fiscal tightening due to take hold in January, said Vincent Reinhart, chief U.S. economist at Morgan Stanley.

“They create their own monetary cliff to match the fiscal cliff,” said Reinhart, former head of the Fed board’s Division of Monetary Affairs. That may mean “a world of hurt” for the central bank because there would be a perception the Fed allows fiscal politics to influence its actions.

The Federal Open Market Committee should have prolonged Twist into 2013, said Kathy Jones, fixed income strategist in New York for Charles Schwab Corp., which has $1.76 trillion in client assets. “I’m surprised they didn’t extend further into the first quarter to get over the hump” from fiscal tightening.

Federal Reserve Bank of St. Louis President James Bullard said in an interview Friday that this week’s FOMC decision was a “continuation of the existing policy” as officials “felt that it was maybe a bit imprudent to end the Twist program right at this particular juncture.”

“The committee has kind of been haunted by having end dates on programs,” Bullard said.

The fiscal cliff in the United States would result in a “very substantial withdrawal of income from the economy” that would damage the expansion, Bernanke said at a news conference this week after the FOMC decision. The Fed is “prepared to take additional steps if appropriate,” he said.

The tax increases and spending cuts would trim a combined 3 percentage points from growth next year, according to economists surveyed last month by Bloomberg News.

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