Fisher Investments Editorial Staff
Media Hype/Myths, Monetary Policy, US Economy

Cue the Curtain for QE2?

By, 06/01/2011

Story Highlights:

  • The Fed’s QE2 is set to end this month, which some anticipate with fear.
  • A look at recent economic data shows that claims QE2’s been the sole driver of US economic growth are likely overstated.
  • More normal monetary policy isn’t to be feared—it’s a welcome sign of a healthy economy.

It’s June, and while to many that means school’s out, others may have the month circled for a different reason: The scheduled end of asset purchases under the Fed’s second round of quantitative easing (QE2). The policy, launched in early November 2010, has been both widely criticized and lauded in the financial press. As we’ve written here and here, we felt QE2 was neither necessary nor hugely additive to US economic growth. Still, some seem inclined to believe QE2 is solely responsible for current US growth and positive market returns since its inception—and therefore, they believe its end will stymie both. But that’s likely an overstatement of QE2’s effectiveness, in our view. Here’s a short list of economic data to consider:

  • US GDP has expanded for seven consecutive quarters—five before QE2 commenced.
  • Nominal US GDP hit an all-time high in Q3 2010 and real GDP in Q4 2010—meaning US GDP has been at record highs for the entirety of QE2’s existence.
  • US corporate profits after tax grew throughout 2010—and at an all-time high seasonally adjusted annual rate in Q1 2011.
  • State tax collections (a lagging look at economic activity) rose by 9.1% in Q1 2011—the fifth consecutive quarterly increase.
  • World trade and output have both recovered from their recessionary declines.
  • US rail and port traffic have continued to climb since the recession’s end in Q2 2009.
  • As one might be able to infer from the above, US exports are at a record high.
  • Imports have also risen—showing healthy US demand for foreign-made goods.
  • US worker productivity has surged the past two years.
  • US real personal consumption is at an all-time high.
  • The S&P 500 has risen about 100% from its 03/09/2009 low—the majority before QE2.

And that’s just an abbreviated list—there’s much more. The key takeaway? Growth in all of the above started well before QE2. And the economic data points that lagged before QE2 (most specifically, housing and unemployment) have continued lagging. So QE2’s impact looks to be a lot more muted than claims it alone is propping up growth.

So what has QE2 actually accomplished? Following the money shows QE2’s primary influence has been boosting banks’ excess reserves—which are quite elevated today. However, bank reserves didn’t much need a boost when QE2 was announced. In fact, combining QE2 with the Fed’s policy of paying interest on excess reserves (created during the height of 2008’s financial crisis) has incentivized banks to simply hoard cash and receive risk-free interest from the Fed.

Some argue QE2 has increased inflation. But, thus far, it’s mostly increased inflation expectations. It’s fair to say the aforementioned increased reserves could be tinder for future inflation. But to date, QE2 hasn’t increased inflation much—because, as mentioned, the excess reserves are mostly just parked at the Fed earning interest. For QE2 to contribute to inflation materially rising in the very near term, banks would have to stop parking the dough and start lending it out pretty darn fast so the money could circulate and chase goods and services—which is possible but isn’t set in stone and likely isn’t a very near-term issue.

For all the talk of QE2 purchases bolstering growth or boosting inflation, what’s more clear is the most effective thing about QE2 was the Fed’s communication announcing its start and end. (That’s why we’re writing this now.) Which also means the end isn’t going to come as much of a surprise to markets—and surprises tend to move markets materially, not the widely expected and long anticipated. Moreover, though the Fed has no current plans to continue increasing its balance sheet beyond June, it won’t decrease it immediately either—principal and interest payments on its existing holdings will be reinvested. A more normal monetary policy—with a more stable Fed balance sheet and rates higher than 0%—isn’t to be feared. It’s the eventual and welcome result of a healthy economy.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.


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