Tags: Bill Gross | Federal Reserve | QE | taper

Pimco's Gross: Fed Needs Private Market to Take Over QE Purchases When It Tapers

By Dan Weil   |   Thursday, 14 Nov 2013 08:29 AM

Now that financial markets have become addicted to the Federal Reserve's quantitative easing, it will be difficult for the central bank to withdraw the stimulus, says Bill Gross, co-chief investment officer of fund giant Pimco.

"What the Fed wants to do as they begin to taper — perhaps in December, more reasonably at some point in 2014 — is to have the private market take the place of the Fed in terms of buying what they buy," Gross tells CNBC.

That amounts to $85 billion of Treasurys and mortgage-backed securities a month. The private market will pick up that slack only under two conditions, he predicts.

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"One, if yields were sufficiently high, perhaps they've done that over the past several quarters. But as well, if the funding of those positions was guaranteed in terms of its cost," he explains.

"And that's where Janet Yellen comes in. If she can convince investors the cost of funding . . . will remain at 25 basis points for the next three, four, five years, perhaps she can pull it off. We have our doubts."

He's referring to the Fed's federal funds rate target of zero to 0.25 percent.

And what are the doubts?

"The policies have increasingly become rather negative in terms of their implications," Gross notes.

All the Fed's quantitative easing and almost five years of the record-low fed funds target have produced merely 2 percent economic growth, he adds.

"If that's the best they can do, what will be done going forward if tapering [occurs] and quantitative easing pulls back?" Gross asks.

"There are other negative aspects of quantitative easing and check-writing that we see daily in terms of investment returns in the real economy as opposed to the financial economy."

To be sure, tapering won't come as a shock to the market, Gross argues. In early May, before the Fed began its tapering talk, 10-year Treasurys yielded about 1.65 percent and now the yield stands at 2.73 percent.

"So there's been some adjustment," Gross states. "Now if they taper, the conditions that I suggested [are necessary for] the private market to take over for the Fed in terms of buying $1 trillion [of Treasurys and mortgage securities a year] is a little more doable."

That's no sure thing, of course. But a 2.65 percent yield for the 10-year Treasury combined with the guarantee of no increase in the fed funds rate for the next two to four years would mean "perhaps we have a chance," Gross said.

Former White House budget director David Stockman has a much more dire outlook on Fed policy than Gross does.

"Fed policy is off the deep end so far that we're in danger of financial instability of massive magnitude," Stockman tells Yahoo.

He also thinks Janet Yellen, President Obama's choice as next Fed chairman, would simply extend the disaster. "I praise Sen. Rand Paul, R-Ky., for trying to stop this nomination" of Yellen, Stockman states.

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