Easing into a recovery – crank up the printing press!

MoneyPrintingPress.jpgQE2 has arrived in the US! – not the famed cruise ship, but the second round of quantiative easing by the US Federal Reserve.

The pace of economic recovery in the US has been painfully slow, and momentum is waning with persistent high unemployment, weak housing and construction markets and tight credit availability.

And abroad, there are still the minefields of the European debt crisis, which is already resulting in austerity measures by governments, and a potential economic slowdown in China.

So what is quantitative easing and more importantly, how could it help the economy and the chemical markets? In this action, the Fed will essentially buy up US Treasuries with cash, resulting in a two-pronged impact.

First it injects cash into the economy, boosting overall money supply and liquidity. Secondly, buying up Treasuries puts upward pressure on Treasury prices, driving down the yield and ultimately interest rates.

So money becomes more plentiful and borrowing costs go down. This will give a boost to the overall economy, and hopefully juice-up important end markets for chemicals such as automotive, housing and construction, and consumer durables (white goods).

Plus, an added benefit will come in the form of even lower rates at which companies can refinance their debt. Right now, chemical companies are already lining up to raise funds on attractive terms.

On August 5, US specialty chemical company Ferro sold $250m in 7.875% senior notes due 2018. US specialties firm Chemtura is looking to sell $450m in senior unsecured notes due 2018 to finance its exit from bankruptcy. And Brazilian chemical giant Braskem is issuing an additional $350m in 6.875% senior unsecured notes due 2020 after selling $400m in notes in April at 7%.

Normal monetary measures by the Fed would involve simply taking down the discount and Fed Funds rates, but these are already at record lows after unprecedented “easing” steps through the global financial and economic crisis of 2008-2009. With a targeted Fed Funds rate of 0-0.25%, there is basically no more room to maneuver.

But the QE2 measures the Fed is taking will be somewhat limited in scope – at least for now. Right now, the plan is to use funds from maturing mortgages in its $2 trillion securities portfolio to buy up Treasuries. This will amount to around $10-$20bn every month. Observers are hopeful that this could be the first step towards more robust easing actions ahead.

Upon the initial news of QE2 on August 10, which was widely expected, the US stock market reversed much of its losses by the end of the day. But on August 11, the Dow Jones Industrial Average plunged 265 points, or 2.5%, to 10,378, on weaker-than-expected manufacturing data from China and renewed concerns about a global economic slowdown.

China’s industrial production in July grew 13.4% year on year – hardly a weak showing, but it was the smallest gain since August 2009.

Economically-sensitive chemical stocks fell harder on the day, including Dow Chemical (-3.1%), DuPont (-3.0%), Hunstman (-5.8%), Eastman Chemical (-3.6%), Celanese (-5.5%) and Georgia Gulf (-10.6%).

It will take more than just baby steps to revive the fading recovery. With inflation currently low, and a greater risk for deflationary conditions ahead, it’s time for the Fed to crank up the printing press.

 

Photo credit: www.artdiamondblog.com

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