Stocks, GDP, unemployment, and QE3: what should we expect from here?

The Federal Reserve Open Market Committee announced today that it would begin buying $40 billion per month of securities in a 3rd round of so-called quantitative easing (QE3):

To support a stronger economic recovery and to help ensure that inflation, over time, is at the rate most consistent with its dual mandate, the Committee agreed today to increase policy accommodation by purchasing additional agency mortgage-backed securities at a pace of $40 billion per month. The Committee also will continue through the end of the year its program to extend the average maturity of its holdings of securities as announced in June, and it is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities. These actions, which together will increase the Committee’s holdings of longer-term securities by about $85 billion each month through the end of the year, should put downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative.

Check out this graph from Calculated Risk:

Note that after every hint or announcement of more Fed action, the S&P came off a recent low. In some cases, that stock surge was sustained; in others, it was not sustained. Today, after the Fed announcement, stocks surged.

I don’t know if that surge will continue — I was even surprised to see such a jump today, given that the markets had largely priced in (or so I assumed) additional Fed action.

But maybe the stock increase was related to the slow improvement that now seems to have taken hold and which has led the Fed to raise its estimates of GDP and reduce its estimates of unemployment over the next couple of years. As Calculated Risk notes in tables in a great post today, the Fed now sees GDP between 3.0 and 3.8 for 2014, unemployment between 6.7% and 7.3% for 2014, and core inflation just 1.8% to 2.0% in 2014. That indicates that the Fed still does not see any imminent threat of inflation.

There are a couple of downsides to the continued policy of driving down interest rates, especially the fact that such policies hurt savers. But the strong actions today will almost certainly help boost the economy — likely more than many analysts are willing to say. That’s the gist of another post by Bill McBride at Calculated Risk this afternoon.

With the nation still so far below maximum employment and with inflation still so subdued, it’s great to see the Fed take stronger action today. The Fed’s dual mandate is to control prices and maximize employment; many Bernanke and company are now finally treating those two elements with equal concern.