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Time is tight but I wanted to provide some thoughts ahead of both the revision for US Gross Domestic Product figures today and the speech by the Chairman of the Federal Reserve Ben Bernanke at Jackson Hole. You may ...
Overall, the incoming data suggest that the recovery of output and employment in the United States has slowed in recent months, to a pace somewhat weaker than most FOMC participants projected earlier this year. Much of the unexpected slowing is attributable to the household sector, where consumer spending and the demand for housing have both grown less quickly than was anticipated. Consumer spending may continue to grow relatively slowly in the near term as households focus on repairing their balance sheets.
And there to my mind is the nub of his problem today. There is an element of deja vu here with one exception and one consequence. The exception is that he in effect fired the starting gun for further monetary expansion last year which ended up actually starting in early November and became what is now called QE2. So the balance sheet of the Federal Reserve Bank is some US 600 billion dollars larger than it was then from this policy (what is called QE-lite had already been announced). The consequence of all this monetary largess in my opinion was that it contributed to a rise in inflation.
Accordingly if the US economy remains in bad shape and inflation is higher then it is hard to avoid the conclusion that all the versions of QE have failed in their main objective. They have worked on a subsidiary objective which was to raise the level of inflation but not in achieveing any meaningful improvement in either the economy’s growth rate or a fundamental change in the trajectory of unemployment.
Therefore suggesting more Quantitative Easing or what would be called QE3 today would hit the problem that the previous versions have not worked so why should it? It has been my contention that moving into QE3 which would imply QE4 and so on poses considerable dangers and could quite easily make things worse. I notice that in the last week or two there is a lot more economic output on this line of thought although some come to the same answer by different and maybe even opposite logic!
There remains the fact that I believe that central bankers have lost touch with reality and that accordingly logic may not apply. On this subject a member of the UK Monetary Policy Committee Martin Weale has given a speech with this section in it where he discusses the potential gains as he sees it from extending the maturity of the government bonds held on a central bank’s balance sheet and the emphasis is mine.
Maybe it does as it shows us that extending the maturity of bond holdings is on central bankers minds right now. If pressed I would say that if Ben Bernanke outlines policy options today this is the likeliest new candidate (although care is needed as it was option three in the economic paper he wrote back in the early part of the last decade).
The alternative highlighted by Bruce Krasting has gained some momentum by developments in the banking world this week as liquidity gets tighter and banks struggle. I discussed this subject in my post of earlier today. Bruce’s suggestion is that Ben will announce further moves in the area of central bank liquidity swaps to help this problem. I remain cautious on this as it would mean admitting there is a problem! But in these times virtually nothing can be ruled out.
The embargo on the speech ends at 3pm UK time and I will be updating this post to reflect what happens…. However my opinion is that a consequence of what has happened is that markets are awaiting this sort of thing too often and with too much enthusiasm and we need to get off that treadmill. If you like we have a type of junkie culture awaiting the next fix. So it would be best for him to announce as little as possible today and if necessary take the short-term volatility which might result.
The first thought is that there is no actual policy suggestion or action here which is something that I asked for. So we get a good start. But unfortunately this comes with this rider which means that Chairman Ben Bernanke is unable to get off the treadmill of offering what is sometimes called hopium.
An interesting idea if you think about it as it implies that they will be doing nothing in the meantime does it not? So an attempt at presentation which is frankly risible as if you are a member of the FOMC you will probably be lying awake at night in these times unable to think of little else.
In addition to refining our forward guidance, the Federal Reserve has a range of tools that could be used to provide additional monetary stimulus. We discussed the relative merits and costs of such tools at our August meeting.
So we now have a promise of a range of unspecified tools which were apparently unable to win approval at the August meeting. This comes combined with an extraordinary apparent faith in the power of the Federal Reserve declaring what it will do. Hands up all those who thought they were planning to raise interest rates any time soon!
If we consider the chain of events we see that this game of peddling hope for next time is becoming a regular occurrence as we were moved from the August FOMC meeting to today at Jackson Hole and now to the September FOMC meeting. The problem with this is that it papers over an issue that I raised back on August 10th.
It is rare for there to be 3 dissenters as there were which is particularly surprising as not a lot was actually announced! So I remain of the view that what will be called QE3 was indeed discussed and await Chairman Bernanke’s speech at Jackson Hole on the 26th of this month. I believe he had something planned as I discussed yesterday but did not want to press ahead with 3 dissenters….
As time goes by I think that markets may well dwell on this point more and more. Ben Bernanke may no longer be in full control of the FOMC and may be unwilling or even unable to press forward with new measures until he has more support. So whilst I am still against the tactics perhaps the US will end up with a better monetary strategy….
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Read the speech and noted the following : control of inflation / price stability was a priority ; liquidity provision of last resort was on the table;emphasis on holding low rates for 2 years subject to events; confidence that Eurozone will get their act in order ;banks safer and better regulated; priority for US to become fiscally sustainable via a 'plan' without creation of 'fiscal headwinds'; 'tools' and their use to be considered in September.....personally, I believe the Congress politics has caused him to talk more of traditional values of inflation and spending and debt control as opposed to 'non-standard' measures, otherwise he starts to look 'un-American' to the Tea-partyers...ofcourse there's politics in economics!
As I understand QE, the FEd or ECB buys the relevant government debt in the secondary market. This is supposed to stimulate the real economy, as the recipients of this cash have to spend it or invest it somewhere. If I have understood that correctly:
2. When the bond matures, the government can only repay this QE debt out of a new debt issue, so doesn't this also negate the whole process?
Shaun Richards is a independent economist who studied originally at the LSE. "My speciality is monetary economics and I use it to analyse current economic trends. I started my career in the City of London in 1985 and bring my trading experience in bond, currency and derivative markets to my analysis of today's economic events." Follow him on twitter @notayesmansecon.
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