FOMC just announced QE3 without announcing QE3

See my immediately previous entry about the FOMC statement release today.

Many news outlets and talking heads mentioned that while the Fed will be keeping rates low for two more years, there was not an announcement that the Fed will initiate 3rd round of stimulus (or "quantitative easing").

I happen to disagree with this assessment. In order to maintain credibility, the Fed needs to follow what it said in the statement (that economic conditions will likely warrant the ffr be kept at exceptionally low levels until mid 2013) and keep the federal funds rate low until 2013 - I don't think they should do this, but this is what they probably will do, and it is key to point number 1.

1. If inflation or inflation expectations start to increase, the inflation premium on treasuries will increase, which will put upward pressure on interest rates. Any other factors that decrease the desire to hold treasuries (such as if China continues to reduce its holdings, or the other ratings agencies reduce US debt ratings) will also put upward pressure on rates for treasuries. For the Fed to maintain the federal funds rate under these circumstances, it will be FORCED to purchase treasury bonds on the open market and increase the size of its balance sheet. Economists might have complicated jargon, but QE1 and QE2 were essentially increasing the Fed's balance sheet and printing money. That is exactly what the Fed would do under these situations.

2. Just this announcement itself is a stimulus - the expectation that the Fed will hold rates so low for so long will strengthen expected earnings for corporations (via the "interest rate effect"), which will increase stock prices (as the "classical theory of asset value" suggests).
Although this wasn't itself announcing QE3, it was probably meant as a stimulus, and it worked, at least temporarily on the stock market - the Dow closed up $429 points today.

Not to mention that if the stock market tanks and credit seizes up (like in 08), which might very well do, again, the Fed theoretically can use it's Section 13.3 "unusual and exigent circumstances" authority to buy what ever asset they want - even stocks!