Fed Stimulus Ends Soon; Do We Still Need It? | WPN World People News

With the economy growing at a tepid pace last fall, the Federal Reserve made an unprecedented move: It began buying up long-term government bonds from investors as a way of pouring money into the economy.

"In this context, monetary policy cannot be a panacea," Federal Reserve Chairman Ben Bernnake says.

Many economists say the program probably helped stimulate growth, at least a little. Now it's supposed to expire — and Fed officials say it won't be coming back.

Fed officials never use the term themselves, but a lot of people have taken to calling the Fed's stimulus program "quantitative easing."

"The purpose is to perk up the economy, which it did — at least for a while," California State University economist Sun Won Sohn says.

He says the first round of quantitative easing took place in 2008 when the Fed bought up mortgage-backed securities. In a second round of quantitative easing last fall — commonly known as "QE2" — the Fed bought up $600 billion worth of long-term treasury bonds.

"When you flood the economy with money, reducing the long-term interest rates like mortgage rates, housing and mortgage markets are obviously helped," Sohn says. "Also, with more liquidity in the economy, the value of the dollar declined, and that promoted our exports."

Not everyone agrees that QE2 had its desired impact. The economy grew in the months after the program was started, but that could have been due to other factors. Economist Louis Crandall of Wrightson ICAP concedes that by flooding the markets with money, the Fed probably lowered mortgage rates a bit. But, he says, "the cost of this is that we've set a really ghastly precedent."

Crandall points out that by buying treasury bonds, the Fed is essentially lending the government money. That's not a big problem now, because interest rates are low and there are plenty of people who want to buy U.S. government debt. But he worries that if conditions tighten, the Fed may come under pressure to buy more debt as a way of helping the government solve its budget problems. That, he says, could lead to higher inflation.

As of now, QE2 is set to expire at the end of the month. In a speech in Atlanta this month, Fed Chairman Ben Bernanke noted that the economy faces a number of headwinds, like higher oil prices.

"In this context, monetary policy cannot be a panacea," Bernanke said.

To economist David Malpass, president of the consulting firm Encima Global, Bernanke's words were a clear signal that the Fed is done trying extraordinary measures like QE2 — at least for a while.

"He's just saying, 'Look, let's be realistic, the Federal Reserve can't cause growth, can't cause employment, and so there's going to have to be other tools, hard work within the economy,' and I think he really meant better policy out of Washington in other areas," Malpass says.

Even if Bernanke wanted to extend QE2, he probably couldn't right now, says Dean Baker of the Center for Economic and Policy research. Baker says QE2 was highly controversial with some other Fed officials, and they probably wouldn't vote to extend it.

"It's a political issue," he says. "It's that simply given the makeup of the Open Market Committee, [Bernanke] lacks the majority needed to really push any further."

Baker says that's a shame because he believes QE2 could help the economy at a time when it badly needs it. Baker believes the program helped lower long-term interest rates by two- to three-tenths of a percentage point. That means lower mortgage rates, which means more people can refinance. And he says that ultimately helps the economy grow.

"But let's say it's something if we could raise GDP growth by a quarter of a percentage point. That's not huge but that's still talking about hundreds of thousands of jobs," Baker says. "It seems to me, why not do that?"

With the program ending, Baker says some of those gains could be gradually be reversed over time. But some Fed officials believe the benefits of QE2 have been less than clear, and, at any rate, they're outweighed by the risks. So an attempt by the Fed to stimulate growth is ending — just at a time when the economy is showing new signs of weakness.

Source : NPR