Cost of The Wealth Effect

With Quantitative Easing Round 3, the Federal Reserve has said it will continue to indefinitely buy mortgage securities to drive down interest rates. The intent is to accelerate our economic recovery by making cash cheaper and more readily available for people and business to spend.

While I think these significant actions are probably necessarily to get our economy growing again based on where it has been at, this is no freebie. There are hidden costs that all of us will be paying for for a long time to come and I think its important to recognize them.

Federal Reserve Actions are Not Cost Free
These actions are essentially devaluing the dollar in the long run. Folks can now borrow money at ridiculously low levels; for example I just locked into a refinance on a mortgage for a 3.5% 30 year fixed loan with no closing costs. That is almost a free loan and think in th elong run this will prove to be cheaper than near risk free investments. I can recall only 5 years ago that my online savings account was paying 4+% interest. Who knows what interest rates will be in 10 or 20 years from now.

The cost of these actions is that the value of the US dollar will be less long term. Ultimately that means the amount we need to spend for basic commodities and other goods will rise. It could mean our $2million financial freedom goal might not allow us to maintain our standard of living in the long run. Its pretty scary to me primarily because its so hard to quantify the long term effects.

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Comments (6)

Change the blog to 2 kg gold blog, lol...

Excellent thoughts 2million. Something interesting to ponder: The Bank of Japan has essentially kept interest rates in Japan at or near 0% for the past 25 years since the Japanese real estate crash. One would have expected this action to result in inflation except it did not. Conversely, Japan has experienced deflation and at best stagnation. Though the US is not Japan, the point is that even lowering interest rates to historical lows in the US may or may not devalue the currency. It really depends. If we follow the same trend as Japan, we could be looking at decades of low interest rates and little devalution/inflation if the economy/unemployment remain stubbornly bad.

Who offers 3.5% on a 30yr fixed with no closing costs? I'm intersted.


You def could be right regarding following a similar pat as Japan - many experts agree. I hope your wrong as that would be the least desirable path - I would much rather be dealing with high inflation and a robust economy vs stagflation.

Travis - I used a local mortgage broker in Raleigh. If your in the area let me know and I can pass the info on.

First off no mortgage is no closing costs, the rate offered would be lower if you had to pay the closing costs, the lender/investor covers the closing costs by charging you more interest over the course of the loan. So you might have gotten 3.25% and paid $2500 in closing costs, your GFE is required to list the other options so you know your opportunity cost. Lender credits work the same way as points but in reverse, the higher the credit the higher the rate. That being said, you might have still gotten the best deal, it all depends on how much the rate would increment compared to the closings.

As far as the devauled dollar, I agree the QE printing press prevents America from having the same problems as Greece because we can print dollars, and they can't print Euros, however we are currently not in an inflationary environment, and as long as the Fed stops buying debt products when inflation begins it ought to be able to manage the dollars value. Operation Twist is selling short securities and replacing them with longer duration securities, Treasury is also trying to extend the average muturity by selling more long term debt then short, this helps lock in the governments cost of servicing debt into the future and will hopefully prevent massive interest rate shock when rates do eventually rise.

The problem with QE and Operation Twist and treasury elongating their maturities and shorting the rate curve is none of it is having a material impact on unemployment which is the goal. Look at the stock market, stocks have gone up a lot over the last few years, companies are reporting better profits due to cost cutting and preserving capital not investing it. Rates have been low for a while already, the extra .25% they dropped due to QE3 didn't start a hiring and spending spree, companies and people are deleveraging and saving, not hiring and spending. When spending resumes hiring will follow. Monetary policy alone won't fix the economy.

Read it, understand it.

Steve's comment on Japan was good and Jay's was pretty enlightened. Those proclaiming large deficits necessarily create inflation conveniently forget the Japanese experience. Mosler's work will be a real eye opener for you guys, if you want to understand how monetary policy actually works.

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A personal finance weblog of my journey to reach my goal of $2 million + the value of my primary residence.
Current Net Worth: $1,938,393


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