Most analysts take for granted that this new QE3 will work, in fact, better than the first two rounds despite its smaller footprint. That stems from the use of the expectations channel, and the Fed communicating that they will continue to take steps at monetary easing even after the recovery takes hold and the labor market improves. This represents a kind of admission of guilt on the part of Ben Bernanke, whose Jackson Hole speech was full of defenses of his prior view of the monetary situation. Basically, Bernanke said “we didn’t do enough, we’re changing course.”
Josh Barro thinks it’s a win-win for everyone.
While overly tight monetary policy has hit the unemployed the hardest, it has been bad for almost everybody, including rich people. It’s true that disinflation has been good for certain securities, particularly low-risk bonds. But wealthy bondholders also tend to be wealthy stockholders, and Fed policies that hold economic growth down are bad for equities. Most advocates of hard money are simply making a mistake, not putting their interests ahead of the common good.
The great thing about good policy is that it is a positive-sum game. A Fed that credibly promises to ease until unemployment falls will both put people back to work and grow the economy faster, driving up stock prices. That’s a win for capital, a win for labor and, if he gets credit for an accelerated recovery, a win for Ben Bernanke. As Michael Scott might say, it’s a win-win-win.
However, it’s worth stepping back and thinking about the various channels that policymakers can use to create jobs, as Jared Bernstein does. The most direct one comes from hiring workers to do specific work. Monetary policy does not function like that at all. It lowers interest rates in the hopes that cash will come off the sidelines, that the lower cost of loans will spur more lending and investment, that the money saved on the loans will go back into the economy, that jobs associated with all these loans and this consumer spending will get a boost.
So, a homebuyer takes advantage of a low mortgage rate, leading to jobs for homebuilders and real estate agents and furniture suppliers. A factory owner takes advantage of low rates to replace old equipment, creating jobs for machine manufacturers. An auto dealer invests in a redesigned show room, a buyer takes advantage of that dealer’s low rates and buys a new car there, employing designers, salespeople, and auto suppliers.
And those are just the direct jobs. The newly employed construction worker goes out for lunch near the job site, and the diner needs to add another worker (the jobs multiplier effect).
Should we expect this in the current state of affairs? Yves Smith doesn’t really think so. First, she notes that this will weaken the dollar (as would anything that puts more dollars into circulation), which may be good for trade but bad for Europe, which still represents the real tail risk at the moment. Boosting commodity prices amid a drought-stricken price spike may increase political unrest. But her real complaint is this:
But the elephant in the room is what, if anything, these measures will achieve in terms of real economy impact. “Let them eat stocks and housing” has not been terribly successful. Even with super low rates, it has also taken massive sequestering of inventories for the housing market to have the appearance of stabilizing. We have low household formation due to young adults facing high unemployment, low paying jobs with generally short job tenures, and heavy student debt burdens. On top of that, we have generational headwinds as boomers hit retirement age and want or need to downsize. Keeping money on sale is not going to induce banks to lend more if they can’t find enough qualified borrowers. And the consumer deleveraging story is not as positive as the statistics would lead you to believe. A lot of it is involuntary, meaning driven by foreclosures. In addition, retirees also curtail their spending thanks to the fall in interest income they’ve suffered under ZIRP.
Smith also believes that the Fed has walked into a blind canyon, without a way to escape low interest rates without snapping back the economy, and with no space in the event of a financial or fiscal shock.
One additional piece to this is that the lower mortgage rates will induce more investor purchases of housing and conversion into single-family rental units. That could mask the housing struggle for quite a bit longer. But we have to ask what kind of housing market that will leave us, whether it’s healthy over the long-term, and what consequences will arise from it (i.e. the absentee slumlord problem, the house-flipper bubble, etc.).
There’s also the concern of harming savers, particularly near-retirees. Bernanke addressed this yesterday, and he’s right that savers have more to lose from a bad economy and a lack of jobs. But with demographics as they are, we have an outsized number of people ending their work life and needing a decent yield to retire.
Overall, I would say that the Fed’s actions can help at the margins, even while they produce unintended consequences. And I think the expectations channel can multiply these effects. But the monetary channel at this point, with mass underwater homeowners, continued deleveraging, and weak consumer demand, is not as effective as it could be. We still need fiscal stimulus and smart deleveraging from debt write-downs.