Today’s Daily Angle comes from Wade Hansen and his staff at LearningMarkets.com. You can read more on the Learning Markets website.

The U.S. dollar (USD) got absolutely hammered Wednesday, thanks to what the Federal Open Market Committee (FOMC) announced after a two-day meeting at the Federal Reserve. And if the Fed keeps its word, don’t expect bearish pressure on the USD to ease up any time soon.

According to Bloomberg: “The dollar fell the most against the [[euro]] since September 2000 as the Federal Reserve said it will purchase $300 billion of longer-term Treasuries, spurring speculation the central bank is debasing the currency.

‘It did shock the market,’ said Jack Iles, a money manager in Boston at MFC Global Investment Management, with $2.5 billion under management. ‘The Fed is printing money, which translates into general dollar weakness. There’s trillions being funded and committed. It’s a huge dollar negative.’

The Federal Open Market Committee said in its statement today that the central bank will buy longer-term U.S. government debt and purchase an additional $750 billion of agency mortgage- backed securities, a policy known as quantitative easing.

Quantitative easing is a monetary policy tool in which a central bank— like the Federal Reserve— floods the market with cash in an attempt to stimulate an economy in recession and to stave off deflation. The idea is that if the central bank floods enough cash into the market, it will set off the following chain of events:

1. Banks and other financial institutions will build up larger and larger cash reserves 
2. Banks will finally decide to loosen their lending standards to utilize their excess cash 
3. Individuals and companies will start getting the loans they are seeking 
4. The economy will begin to recover as people and companies begin to spend again. 

Quantitative easing requires the central bank to take the following three steps:

1. Cut the short-term interest rate to zero percent 
2. Announce how long it will leave the short-term interest rate at zero percent 
3. Begin buying long-term securities—like Treasuries, corporate bonds and asset-backed securities. 

So what effect will the Fed’s announcement have on the relative strength of the dollar, and the overall economy? If money can be made available by increasing its supply then the current theory states that the credit market will unclench and the economy will be more likely to recover. However, the offsetting risk of this strategy is that an inflation scare may occur.

Once the announcement was made, the market moved in conflicting directions. Gold jumped up and the US dollar declined, which is what we would expect if inflation was becoming an issue. However, bond prices (Treasuries specifically) also rose in value, which is not what we would expect to see if traders are worried about inflation.

The rise in bond prices is largely attributable to the fact that the Fed will be supporting demand for them by buying $300 billion worth in the near term. However, this disturbance to the normal order of things is extremely concerning. While it is impossible to predict which direction the market may go in the near term we can say that there is a very high probability for additional volatility. That volatility, due to increased intervention in the market and the increased risk for an inflation scare can be dealt with but it requires planning. Traders should be thinking about controlling risk through diversification and preparing a plan for investing in an inflationary but stagnant economy.