Essentially correct except that this recession is now long in the
tooth as a direct result of both a stalled money supply, a real
contraction in lending and a general failure to address the housing
liquidity problem head on in the first place.
During this four year pause, what has happened is that the mortgage
contraction crisis was been stabilized to the point that any sales
are occurring in an orderly manner and all losses have now been
covered mostly with Fed money. That is what quantitative easing was
all about.
In short, we fixed the problem the hard way and generally in the
worst manner possible. That is why it has taken four years. At
least now all the chickens are back in the hen house.
This round of quantitative easing will do something different. It
will send the banking system out into the market in the search for
assets or loans. Thus we now see a sudden willingness on the part of
lenders to buy mortgages again. Real estate prices have begun to
firm anywhere possible. I really think that we are now seeing the
real beginning of a natural recovery however long it has been delayed
by inaction and ineptitude.
Of course we can do way better as this approach will give us a slow
natural recovery when what has been needed is a couple of years of
rapid recovery.
Why QE3 Won’t
Jumpstart the Economy—and What Would
Posted on September
21, 2012 by Ellen Brown
The economy could use
a good dose of “aggregate demand”—new spending money in the
pockets of consumers—but QE3 won’t do it. Neither will it
trigger the dreaded hyperinflation. In fact, it won’t do much at
all. There are better alternatives.
The Fed’s
announcement on September 13, 2012, that it was embarking on a third
round of quantitative easing has brought the “sound money” crew
out in force, pumping out articles with frighting titles such as “QE3
Will Unleash’ Economic Horror’ On The Human Race.” The Fed
calls QE an asset swap, swapping Fed-created dollars for other assets
on the banks’ balance sheets. But critics call it “reckless
money printing” and say it will inevitably produce hyperinflation.
Too much money will be chasing too few goods, forcing prices up and
the value of the dollar down.
All this
hyperventilating could have been avoided by taking a closer look at
how QE works. The money created by the Fed will go straight into
bank reserve accounts, and banks can’t lend their reserves. The
money just sits there, drawing a bit of interest. The Fed’s
plan is to buy mortgage-backed securities (MBS) from the banks, but
according to the Washington Post, this is not expected to be of much
help to homeowners either.
Why QE3 Won’t
Expand the Circulating Money Supply
In its third round of
QE, the Fed says it will buy $40 billion in MBS every month for an
indefinite period. To do this, it will essentially create money from
nothing, paying for its purchases by crediting the reserve accounts
of the banks from which it buys them. The banks will get the dollars
and the Fed will get the MBS. But the banks’ balance sheets will
remain the same, and the circulating money supply will remain the
same.
When the Fed engages
in QE, it takes away something on the asset side of the bank’s
balance sheet (government securities or mortgage-backed securities)
and replaces it with electronically-generated dollars. These dollars
are held in the banks’ reserve accounts at the Fed. They are
“excess reserves,” which cannot be spent or lent into the economy
by the banks. They can only be lent to other banks that need
reserves, or used to obtain other assets (new loans, bonds, etc.).
As Australian economist Steve Keen explains:
[R]eserves are there
for settlement of accounts between banks, and for the government’s
interface with the private banking sector, but not for lending from.
Banks themselves may . . . swap those assets for other forms of
assets that are income-yielding, but they are not able to lend from
them.
This was also
explained by Prof. Scott Fullwiler, when he argued a year ago for
another form of QE—the minting of some trillion dollar coins by the
Treasury (he called it “QE3 Treasury Style”). He explained why
the increase in reserve balances in QE is not inflationary:
Banks can’t “do”
anything with all the extra reserve balances. Loans create
deposits—reserve balances don’t finance lending or add any “fuel”
to the economy. Banks don’t lend reserve balances except in the
federal funds market, and in that case the Fed always provides
sufficient quantities to keep the federal funds rate at its . . .
interest rate target.
Widespread belief that
reserve balances add “fuel” to bank lending is flawed, as I
explained here over two years ago.
Since November 2008,
when QE1 was first implemented, the monetary base (money created by
the Fed and the government) has indeed gone up. But the
circulating money supply, M2, has not increased faster than in the
previous decade, and loans have actually gone down. (See chart
below from Richard Koo, Nomura Research Institute.)
Quantitative easing
has had beneficial effects on the stock market, but these have been
temporary and are evidently psychological: people THINK the money
supply will inflate, providing more money to invest, inflating stock
prices, so investors jump in and buy. The psychological effect
eventually wears off, requiring a new round of QE to keep the game
going.
That is what happened
with QE1 and QE2. They did not reduce unemployment, the alleged
target; but they also did not drive up the overall price level. The
rate of price inflation has actually been lower after QE than before
the program began.
Why, Then, Is the Fed
Bothering to Engage in QE3?
If the Fed is doing no
more than swapping bank assets, what is the point of this whole
exercise? The Fed’s professed justification is that by buying
mortgage-backed securities, it will lower interest rates for
homeowners and other long-term buyers. As explained in Reuters:
Massive buying of any
asset tends to push up the prices, and because of the way the bond
market works, rising prices force yields [or interest rates] down.
Because the Fed is buying mortgage-backed bonds, the purchases act to
directly lower the cost of borrowing to buy a home. In addition, some
investors, put off by the rising price of the bonds that the Fed is
buying, turn to other assets, like corporate bonds – which, in
turn, pushes up corporate bond prices and lowers those yields, making
it cheaper for companies to borrow – and spend.
Those are the
professed objectives, but politics may also play a role. QE
drives up the stock market in anticipation of an increase in the
amount of money available to invest, a good political move before an
election.
Commodities (oil, food
and precious metals) also go up, since “hot money” floods into
them. Again, this is evidently because investors EXPECT inflation to
drive commodities up, and because lowered interest rates on other
investments prompt investors to look elsewhere. There is also
evidence that commodities are going up because some major market
players are colluding to manipulate the price, a criminal enterprise.
The Fed does bear some
responsibility for the rise in commodity prices, since it has created
an expectation of inflation with QE, and it has kept interest rates
low. But the price rise has not been from flooding the economy with
money. If dollars were flooding economy, housing and wages (the
largest components of the price level) would have shot up as well.
But they have remained low, and overall price increases have remained
within the Fed’s 2% target range. (See chart above.)
Some Possibilities
That Might Be More Effective at Stimulating the Economy
An
injection of money into the pockets of consumers would
actually be good for the economy, but QE3 won’t do it. The Fed
could give production and employment a bigger boost by using its
lender-of-last-resort status in more direct ways than the current
version of QE.
It could make the
very-low-interest loans given to banks available to state and
municipal governments, or to students, or to homeowners. It could
rip up the $1.7 trillion in government securities that it already
holds, lowering the national debt by that amount (as suggested a year
ago by Ron Paul). Or it could buy up a trillion dollars’ worth of
securitized student debt and rip those securities up. These moves
might require some tweaking of the Federal Reserve Act, but Congress
has done it before to serve the banks.
Another possibility
would be the sort of “quantitative easing” first proposed by Ben
Bernanke in 2002, before he was chairman of the Fed—just drop
hundred dollar bills from helicopters. (This is roughly similar to
the Social Credit solution proposed by C. H. Douglas in the 1920s.)
As Martin Hutchinson observed in Money Morning:
With a U.S. population
of 310 million, $31 billion per month, dropped from helicopters,
would have given every American man, woman and child an extra crisp
new $100 bill per month.
Yes, it would produce
an extra $31 billion per month on the nominal Federal budget deficit,
but the Fed would have printed the new bills, so there would have
been no additional strain on the nation’s finances.
It would be much
better than a new social program, because there would have been no
bureaucracy involved, just bill printing and helicopter fuel.
The money would nearly
all have been spent, increasing consumption by perhaps $300 billion
annually, creating perhaps 3 million jobs, and reducing unemployment
by almost 2%.
None of these moves
would drive the economy into hyperinflation. According to the Fed’s
figures, as of July 2010, the money supply was actually $4
trillion LESS than it was in 2008. That means that as of that date,
$4 trillion more needed to be pumped into the money supply just to
get the economy back to where it was before the banking crisis hit.
As the psychological
boost from QE3 wears off and the “fiscal cliff” looms, perhaps
Congress and the Fed will consider some of these more direct
approaches to relieving the economy’s intractable doldrums.
_______
Ellen Brown is an
attorney and president of the Public Banking Institute. In Web of
Debt, her latest of eleven books, she shows how a private cartel has
usurped the power to create money from the people themselves, and how
we the people can get it back. Her websites are http://WebofDebt.com,
http://EllenBrown.com, and http://PublicBankingInstitute.org.
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