“I have concerns about more [bond] purchases [by the Federal Reserve]. As others have pointed out, the dealer community is now assuming close to a $4 trillion balance sheet and purchases through the first quarter of 2014. I admit that is a much stronger reaction that I anticipated, and I am uncomfortable with it for a couple of reasons. First, the question, why stop at $4 trillion? The market in most cases will cheer us for doing more. It will never be enough for the market. Our models will always tell us that we are helping the economy, and I will probably always feel that those benefits are overestimated. And we will be able to tell ourselves that market function is not impaired and that inflation expectations are under control. What is to stop us, other than much faster growth, which it is probably not in our power to produce?
“Second, I think we are actually at a point of encouraging risk-taking, and that should give us pause. Investors really do understand now that we will be there to prevent serious losses. It is not that it is easy for them to make money but that they have every incentive to take more risk, and they are doing so. Meanwhile, we look like we are blowing a fixed income duration bubble right across the credit spectrum that will result in big losses when rates come up down the road. You can almost say that is our strategy.
“My third concern – and others have touched on it as well – is the problems of exiting from a near $4 trillion balance sheet. We’ve got a set of principles from June 2011 and have done some work since then, but it just seems to me that we seem to be way too confident that exit can be managed smoothly. Markets can be much more dynamic than we appear to think…Another way to look at it, though is that it’s not so much the sale, the duration; it’s also unloading our short volatility position.”