Many investors fear that the Fed’s impending exit from QE2 will have a very damaging effect on the financial markets. Whether they are right will depend on the nature of the exit, and its impact on bond yields. An end to the Fed’s programme of bond purchases, without any increase in short rates, is unlikely to be sufficient, on its own, to trigger a major bear market in bonds and equities. But an end to the Fed’s “extended period” language on interest rates would be a much greater threat. I still do not expect this to happen soon.
Gavyn Davies has written an opinion piece for the FT ahead of the UK Budget on Wednesday.
Britain’s Chancellor George Osborne has embarked on an audacious shift in the mix of fiscal and monetary policy. But despite unexpectedly high inflation figures on Tuesday, and ongoing worries about growth, the current combination of tight fiscal and easy monetary policy remains the best chance of avoiding a sovereign debt crisis while ensuring acceptable increases in gross domestic product.
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