Fed Set to End QE3, but Not the QE Concept
Bond Buying Will Remain a Tool in the Central Bank’s Monetary-Policy Arsenal
Their recent comments show bond purchases are now an established part of the Fed’s policy tool kit that they could employ again in times of deep economic trouble. The central bank has employed three rounds of bond-buying programs since the 2008 crisis, first to stabilize the financial system and later to spur stronger growth.
Several Fed policy makers say they think the latest round of Treasury and mortgage-bond purchases, begun in late 2012, helped lower long-term interest rates, boosting hiring and growth. But they also see a high bar to launching more bond buying—known as quantitative easing, or QE—seeing it as a last resort to use only if very low interest rates and communications efforts were to fail to reverse a sharply worsening economic outlook.
“I think QE is quite effective,” Boston Fed President Eric Rosengren said in a recent interview with The Wall Street Journal, describing the approach as an option for dealing with an adverse shock to the economy.
John Williams, president of the San Francisco Fed, said in a recent Journal interview that he would consider more bond buying in a “worst-case scenario,” in which the forecasts for growth and inflation were very poor and officials had already exhausted other tools to spur the economy.
Supporters of QE note the unemployment rate has dropped to 5.9% in September from above 8% when they launched the current and third round of bond purchases. The economy has grown for most of the past five years, though modestly and erratically. And while inflation has been running below the Fed’s 2% target for more than two years, it has risen a bit and stabilized in recent months.
Federal Reserve Chairwoman Janet Yellen, shown last week, has said she wouldn’t rule out more bond buying if needed to spur growth.
Yet opponents in academia, on Capitol Hill and even at the Fed cite a number of concerns. Many point to the weak economic growth of recent years and see little benefit to bond buying and many risks.
Fed officials such as Philadelphia Fed President Charles Plosser and Richmond Fed President Jeffrey Lacker worry the new money the Fed created to buy bonds—more than $3 trillion through the three programs—could fuel excessive inflation when growth picks up or asset bubbles that could cause financial instability and potentially another crisis.
Mr. Lacker is among those particularly unhappy with the Fed’s purchases of mortgage-backed bonds in the latest program, saying it “tilts the playing field against borrowers in other economic sectors, such as businesses and renters.”
Central Bank Watch
Here is how the central banks in four major advanced economies have moved two key levers of monetary policy in recent years, and how two important economic indicators have responded.View the interactive.
In a 2012 speech, then-Fed Chairman Ben Bernanke cited a Fed study estimating the first two rounds of Fed bond purchases in 2008 and 2010 “may have raised the level of output by almost 3% and increased private payroll employment by more than 2 million jobs, relative to what otherwise would have occurred.”
But some studies have found much smaller or unclear benefits.
Mr. Williams wrote a paper this year concluding the Fed’s bond-buying programs “have proven a potent but blunt tool, with uncertain effects on financial markets and the economy.”
Arvind Krishnamurthy, a professor at Stanford University, said his research suggests the bond purchases helped through their direct effect on asset values—for example, by lowering bond yields and pushing up stock prices—and also through the strong signal they sent about the Fed’s intention to keep interest rates down for some time to bolster the economy.
James Bullard , president of the St. Louis Fed, said in a recent interview with Bloomberg TV the Fed could consider continuing the bond purchases beyond this month to keep its options open amid falling U.S. inflation expectations. But no other Fed official has shown support for the idea.
Policy makers have been winding down the bond-buying program all year and decided at their September meeting to end it after this month if the economy continued to improve as expected.
Mr. Rosengren, an advocate for aggressive policies to bring down unemployment, said the Fed’s criteria for ending the bond program have been met. Reaching “5.9% [unemployment] relative to where we were when we started the program is a substantial improvement,” he said.
He said even if his forecast for continued employment gains deteriorated dramatically, he wouldn’t turn to more bond purchases as the first line of defense. “There are other tools that we can use,” he said, such as holding interest rates very low for longer than anticipated and communicating that intent publicly.
Many investors expect the Fed to start raising its benchmark short-term rate from near zero in the middle of next year, a view some top officials have encouraged.
