End the Fed Movement Will Agree: QE3 Will Not Jump Start the Economy

The Great Recession is a quagmire that the U.S. economy is finding difficult to step out of. On September 13th, the Chairman of the Federal Reserve Bank Ben Bernanke announced the enactment of QE3, the third round of quantitative easing since the housing market crash in 2008. 

Quantitative easing is a last-resort of sorts that the Fed uses when other financial tools have proven ineffective to boost the economy. The Fed buys financial assets from commercial banks, and effectively injects new money into the money supply. In November 2008, the Fed began buying $600 billion of debt, expanding this program in March 2009. This is commonly called QE1, short for the first quantitative easing. QE2 followed 2 years later, in November 2010 when the Fed announced a $600 billion treasury-purchasing program. While this policy served to prop the banking sector in a period of severe distress, the labor market has and continues to suffer.

QE3 will consist of buying $40 billion in mortgage-backed securities every month, starting September 14th. Further, it will sell short-term bonds in exchange for longer-term bonds in order to drive down mortgage rates (a continuation of Operation Twist), and pledges to keep interest rates hovering around zero until mid-2015. Not only is quantitative easing unpopular because of its potential to create moral hazard for banks, it could be unfit for this stage of the Great Recession. Perhaps it’s time we stop palliating the economic downturn, and find its cure.

In The Way Forward, Robert Hockett of Cornell University, Daniel Alpert of Westwood Capital and Nouriel Roubini of New York University examined the root of the current financial crisis. In their increasingly popular paper, the authors concluded that the economic slump the U.S. faces was not born out of the 2008 market crash, but rather can be attributed to the “addition of over two billion workers to the global labor force without compensating increases in aggregate demand.” Here they refer to the injection of workers to the global labor market from new export-driven economies, including Japan, Taiwan, Singapore, Hong Kong, South Korea and China. This means the slump is a result of a shifting global market, and that the unemployment cure shouldn’t be exclusively U.S.-centric, but cognizant of the labor market at large. In order to overcome the slump, Hockett, Alpert and Roubini suggest that over the next several years, the United States significantly increase government spending on infrastructure, restructure mortgage debt and restore balance between creditor and debtor nations in the world economy.

The solution presented in The Way Forward is more comprehensive than the third and subsequent quantitative easing rounds. It attempts to pinpoint the root of a complex issue, and offers a multi-pronged approach. While the Fed can help with one of the prongs (reducing debt, and bolstering the real estate and banking sectors), it cannot single-handedly re-launch the stagnant economy. This holds especially true in light of the looming “fiscal cliff” of severe budget cuts that could counteract the benefits of quantitative easing. The Way Forward may not be the only way forward, but through its analysis, we can understand that despite creative maneuvers and financial tools, the Federal Reserve will be unable to pull the economy out of the Great Recession.

To find the full paper, please refer to New America Foundation's website