Tuesday, November 9, 2010

The effects of "Quantitative Easing"

This looks like a success:
Under QE the Fed buys long-term bonds with newly created money. This lowers long-term yields and chases investors into riskier, alternative investments. The real yield on ten-year, inflation-indexed Treasury bonds has fallen from 1.05% to 0.5%, a result of relatively flat nominal yields and a rise in expected inflation. The yield on their five-year cousins is negative (see Buttonwood). Share prices are up by 14% in the same period. Lower yields make the dollar less appealing: it has duly fallen by 5% against the Japanese yen, by 9% against the euro and by 5% on a trade-weighted basis. “You can declare QE to be a success already,” says one hedge-fund economist. “Whether this translates into real activity remains a question-mark. But the question of whether the mechanism would work has been answered.”

Whether this translates into real "stimulus" is still unknown. The reduced long term real rates are...

...supposed to boost growth through three channels. First, lower real yields spur borrowing and investment. This channel is bunged up: many households cannot borrow because their homes have fallen in value and because banks are less willing to lend. But the remaining two channels remain open. Higher share prices have raised household wealth by some $1.4 trillion, which will spur some spending. And the lower dollar should help trade. American factory purchasing managers reported a sharp jump in export orders in October and a drop in imports.

1 comment:

  1. Two thoughts on this: What about rising commodity prices? Going beyond gold, silver, etc., QE2 and the resulting reaction from the G20 has pushed cotton, grain, (consumer commodity) prices up. Furthermore, what if businesses (instead of investing money into the economy as the Fed hopes it will) will instead just pay off debt (i.e Ford paying off UAW healthcare debt)? This looks like the long term result will be higher prices for consumers and less investment in the economy while companies just pay off debt rather than investing. Thoughts?