OPEC Bulletin January 2009OPEC Bulletin February 2009OPEC ...

However, this raises the question: how do they define
the criteria that would create this need?
Before QE2, equity prices were rising and there was
a general consensus that there was plenty of liquidity in
the stock market. Businesses were opting to hold on to,
rather than invest, a significant amount of their moneys
and the production capacity that built up before the crisis
was large enough to meet demand.
QE does nothing to solve these problems; on the contrary,
it might be creating a bubble in the stock market.
There will be more liquidity, which could result in higher
equity and commodity prices as the money tries to look
for a home.
It should be noted that the ECB has not said QE is out
of the question and its decisions are limited because of
having to produce a “one fits all” policy in the euro zone.
Yet it does raise the question that if it is as useful as the
Fed says it is, then why has it not been taken up as enthusiastically
across the Atlantic?
Definition of low inflation
Part of the justification for QE2 is to stem deflation
because the Fed believes a low inflation environment
encourages economic activity. Its definition of low inflation
is constantly evolving, but one could say it defines
price stability at about two per cent inflation every year.
This does not mean that it targets such an inflation
rate but that it finds it acceptable.
The effect of such a view in the short run is negligible,
but, in the long term, it has a significant negative effect
on the value of the dollar and its purchasing power.
It is unclear what the difference is between one per
cent deflation and two per cent inflation to justify taking
action as serious as QE2 where it will buy back $600
billion worth of US long-term bonds in the open market,
close to seven per cent of all treasuries in public hands.
That amount is roughly equivalent to the total amount
of net debt the federal government will issue during the
Fed’s QE2 campaign.
For QE2 to work, the Federal Reserve will have to rely
on Federal Reserve holders not to use it as a chance to
unload their bonds and decrease their exposure. The
programme will run for about eight months and, in that
time, the Fed hopes to buy back about $75bn worth of
securities a month and hope the sellers will buy mortgage
bonds, corporate bonds, and equities instead.
It should be noted that the Fed also hopes the money
will stay in the country and not be used to buy assets
Reuters
outside the US. This is a real possibility as we have seen
something similar before when Japan reduced its interest
rates close to zero and money was borrowed inside
the country to be invested elsewhere. Indeed QE2 has
already pushed equity prices higher in Asia.
It remains to be seen if all the money stays in the
US and whether it will encourage economic activity.
Companies are already supposedly sitting on $1.3 trillion
worth of savings.
In an interview with the Public Broadcasting Service
(PBS), US Federal Reserve Chairman, Ben Bernanke, said
he believed the economic recovery “may not be” selfsustaining.
So we can only presume he is willing to keep
the recovery going by any means necessary.
US national debt is currently approaching $14tn
and the government released a report this year to say
it believes it will rise to $20tr five years ahead of earlier
forecasts in 2015.
One should also note that in their statements the
example of Japan and the lessons learned from its government
stimulus plans is frequently mentioned. However, if
anything, Japan proved stimulus packages have a limited
effect — and put an increasing strain on public finances
the longer they continue — and an improvement in economic
fundamentals is far more important.
The Fed’s Bernanke is known as the leading scholar
of the Great Depression and post-World War I economic
history of Germany. More recently, he was responsible
for some of the most extensive research done on the
Japanese economy following the crash in the stock and
housing markets in the early 1990s and the government’s
US Federal Reserve Chairman, Ben
Bernanke.
OPEC bulletin 3/11
39