I stated in another post that everything that could be done to stimulate more robust economic recovery has been done (and there is nothing left to do but wait). Well, the FED has decided to undertake what is now dubbed "QE2," in a "last shot" attempt it feels worth the risk: The official news came in paragraph 3 of last Wednesday's FOMC Press Release.
I was having coffee with a couple of colleagues Tuesday (the previous night), one of whom was following stock market results on her Android and noted rumors of the FED effort had resulted in broad advances that day. At that point the other colleague asked me: "What exactly is this "quantitative easing?". My answer quickly degenerated into an eye-glazing explanation of reserve requirements and the FED balance sheet, at which time I realized: "I have no idea how to explain this!" So, I just shut-up and drank coffee.
Sorry, Rob! But, I didn't give up: Turns-out Wikipedia has economist contributors, who provide an excellent explanation of "quantitative easing (QE)," generally, and "QE2" in particular.
"But, wait, there's more!" A few points need to be made of this QE2 endeavor by the FED: It's worth paying attention to because 1. The experiment is historic; 2. it may not work; and 3. we'll soon forget it.
It's historic because we're in uncharted waters, as we were at the time of Ronald Reagan's "supply side" growth experiment. Most of the data informing the current easing comes from analysis of the Japanese experience in the early 2000s. For example, see (but don't spend too much time reading), Monetary Policy Alternatives at the Zero Bound: An Empirical Assessment, by Ben S. Bernanke, Vincent R. Reinhart, and Brian P. Sack, 2004-48 (September); and Quantitative Monetary Easing and Risk in Financial Asset Markets, by Takeshi Kimura and David Small, 2004-57 (October).
QE, or what the FED prefers to call "credit easing" may not work for our current recession, like quantitative easing didn't work for Japan, but at least we'll know for sure. In 1981, supply-side economists had data, which suggested cutting marginal tax rates would increase growth and revenues. Reagan tried, but unfortunately the experiment failed: Constant dollar revenues actually fell, and growth came not from tax rate cuts, but with recovery from the 1982 recession after the FED (led by Volcker) increased interest rates; but now we (mainstream economists) know that and can focus our problem-solving research on other issues.
And, if you pay attention, you will likely live to see how soon the nation will forget whether it worked. Heck, few of our neighbors got the supply-side memo (or remember it). Only a few election cycles later, those same neighbors still believe politicians quoting 1981 hypotheses, which promise that cutting taxes will increase growth and revenues.
The FED has only one more note to play - QE2. It is an experiment based upon a "hope" of success. No more Hope or Change, please!
ReplyDeleteThe Chinese have called it "catastrophic", the Germans, "crazy." Brazil, Indonesia and Japan have also voiced deep concern. The chorus of rejection will surely expand at the upcoming
G-20 Summit in Seoul.
I have difficulty accepting "it is worth the risk" to enter "uncharted waters." when the results of failure are not addressed.
I concur with your assertion, that "soon the nation will forget whether it worked" [if successful]. But, if it fails - this nation, and possibly the world, will never forget!
Thanks for the comment, Karl! If I knew who you were, I'd give you a prize - you're the first to comment on my blog, ever!
ReplyDeleteYour concern of failure in uncharted waters is understandable. But I don't think there's really much downside risk, and some in the FED have probably been wanting to try this for a while (much as I hate to say this, they were probably waiting on the elections to be over before issuing the press release).
The risk is that they overshoot so much as to hyperinflate the system, which is most unlikely - the present danger is continued deflation, not the other way around. Besides, they can back-out any further easing relatively easily.
There's a clear future benefit to gathering direct empirical evidence in such a controlled "experiment," which benefit is articulated on Page "i" of Bernanke, Reinhart & Sack (2004), linked in the post. I believe the main goals are to drive down long-term interest rates; and to cajole banks to make loans they're not now making.
However, the cynic in me doubts they'll succeed with the second goal, as the banking system is still holding a lot of bad debt and will hoard the newly "created" money to bolster reserves.