FED Opens the Door for a Significantly Longer Period of Loose Monetary Policy

This morning, euphoria reigns on Asian stock markets, as the dollar exchange rate against the euro has plunged to its lowest level in eight months, following the Fed’s decision not to reduce stimulative monetary measures until the growth of the U.S. economy accelerates.

On the Tokyo Stock Exchange, the Nikkei index was up about 1.3 percent at 7:30 AM, while stock prices in Shanghai, Australia, Singapore, and Hong Kong rose between 0.3 and 1.6 percent.

Stock indices in Indonesia and the Philippines jumped by more than 3 percent, leading the MSCI Asia-Pacific index, excluding Japan, to gain 2.2 percent at 7:30 AM.

From Tokyo to Sydney, investors are celebrating yesterday’s decision by the U.S. central bank to continue its very loose monetary policy.

It was expected that the Fed would reduce its purchases of government and mortgage bonds by $10 billion, but the central bank decided to keep that amount at $85 billion per month.

At a press conference held after a two-day meeting of central bank leaders, Fed Chairman Ben Bernanke stated yesterday that the very loose monetary policy will remain in place until data confirms that the economy is firmly on the path to recovery. Only then will the central bank begin to reduce stimulus.

 - The Fed has opted for a very soft stance. It has not only postponed the reduction of stimulative monetary programs by three months but has also opened the door for a significantly longer period of loose monetary policy than we had hoped for, says Michelle Girard, an analyst at RBS.

The euphoria in Asian markets is even greater than yesterday on Wall Street, where the S&P 500 and Dow Jones indices reached record levels, as Asian investors feared that a reduction in Fed stimulus would also decrease capital inflows into the region’s markets.

As a reduction in Fed stimulus was expected, yields on U.S. bonds have been rising for months, making them increasingly attractive.

As a result, Asian investors feared that developing economies, such as India and Indonesia, which significantly depend on foreign capital inflows, would face difficulties. On one hand, their inflow of foreign money would decrease, while on the other hand, borrowing in financial markets would become more expensive.

However, following yesterday’s Fed decision, yields on U.S. bonds, which serve as a benchmark for borrowing costs in many financial markets, sharply fell.

 - This Fed decision is a protest against the significant tightening of financial conditions in recent months. And, most importantly, the Fed has shown that it will not allow the tightening of financial conditions to cause a slowdown in economic growth, says Alan Ruskin, a strategist at Deutsche Bank.

Positive market influences also came from reports that Fed Vice Chair Janet Yellen is the White House’s favorite for the position of central bank chair when Bernanke steps down in January next year. Yellen has so far advocated for a very loose monetary policy until unemployment falls significantly.

And while the Fed’s decision has spurred a strong rise in stock prices, the dollar has come under significant pressure in the currency markets.

Already yesterday evening, the euro exchange rate jumped by 1.2 percent against the U.S. currency, reaching $1.3529 this morning, the highest level in nearly eight months.

In relation to the Japanese currency, the dollar price fell from yesterday’s 99.30 to 98.30 yen.

The euro exchange rate against the Japanese currency reached 133 yen this morning, while it was 132.40 yen at the same time yesterday.

The Fed’s decision to continue its policy of printing fresh money to stimulate economic growth has also led to a rise in ‘black gold’ prices.

After jumping by $2.6 yesterday, the futures price of oil on the New York exchange strengthened by another 40 cents this morning, reaching $108.55 per barrel.