jerome powell, federal reserve jackson hole symposium, dow jones
Fed Chairman Jerome Powell concedes that more stimulus is needed to keep the financial system afloat. | Image: REUTERS/Leah Millis

On Tuesday, Federal Reserve Chairman Jerome Powell announced that the Fed will boost its purchases of short-term Treasury notes to avoid liquidity concerns experienced by the repo market last month.

The announcement did not come as a surprise as we’ve been saying that the U.S. is in dire need of cash. This is especially true after the Treasury Department announced that it will borrow $381 billion this quarter.

Therefore, we have a situation where both the private and public sectors are scrambling for cash. This leaves the Fed with no choice but to buy more Treasury securities to satisfy the growing appetite for liquidity. However, the Fed might not achieve its intended result and instead send the economy into a recession.

The New Round of Asset Buying Will Benefit a Small Group of Financial Institutions

The Fed’s resumption of another form of quantitative easing (QE) immediately increases the demand for Treasury notes. The surge in demand would push prices higher and possibly create a bubble in the bond market.

Theoretically, this is what we can expect from this fresh round of asset buying from the Fed. However, the reality is that the primary dealers or resellers of government securities have been hoarding bonds since 2018. They have not been fulfilling their mandate of selling Treasury bills to other financial institutions.

Primary dealers have been stockpiling US Treasuries
Primary dealers have been stockpiling U.S. Treasuries. | Source: Investing

At first, the behavior did not make sense considering that the primary dealers can quickly turn a profit by reselling government bonds. Now, it makes total sense. They were anticipating a new round or form of QE.

Since they’ve been hoarding bonds, we can expect the price of Treasury securities to quickly skyrocket as supply in the market has been dry for quite some time. The primary dealers will likely exploit this situation to dump their assets. As a result, these 24 dealers will be the major beneficiaries of the Fed’s efforts. Therefore, the central bank’s goal of boosting reserves in the system will likely remain unfulfilled.

In other words, we expect the repo market to continue facing liquidity issues. This will force the Fed to run more rounds of asset buying. The ones who are likely to suffer are the middle class.

Losses Will Be Socialized to All Dollar Holders

As most of the newly printed money will be absorbed by an elite group of financial institutions, the adverse effect would be the growing monetary supply. In other words, there will be more dollars in the system and that would significantly devalue the dollars that people are holding.

Peter Schiff, the chief executive of Euro Pacific Capital, has foreseen this dynamic. In August, he took to Twitter to express how another round of QE would impact the dollar’s purchasing power.

Peter Schiff on Fed causing inflation
Peter Schiff sees how the Fed’s buying of assets will devalue the dollar. | Source: Twitter

Therefore, it’s likely that the ultra rich will get richer at the expense of everyone else. With the diminishing value of the dollar, the average Joe will have to shell out more cash for less. This will likely lead to lower consumption as the prices of goods soar while wages remain about the same.

Peter Schiff may have a point. The new form of QE may likely drag the economy into a recession.

This article was edited by Sam Bourgi.

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