Sunday, April 20, 2014
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Hard to be Easing

NEW YORK – The United States Federal Reserve’s decision to undertake a third round of quantitative easing, or QE3, has raised three important questions. Will QE3 jump-start America’s anemic economic growth? Will it lead to a persistent increase in risky assets, especially in US and other global equity markets? Finally, will its effects on GDP growth and equity markets be similar or different?

Many now argue that QE3’s effect on risky assets should be as powerful, if not more so, than that of QE1, QE2, and “Operation Twist,” the Fed’s earlier bond-purchase program. After all, while the previous rounds of US monetary easing have been associated with a persistent increase in equity prices, the size and duration of QE3 are more substantial. But, despite the Fed’s impressive commitment to aggressive monetary easing, its effects on the real economy and on US equities could well be smaller and more fleeting than those of previous QE rounds.

Consider, first, that the previous QE rounds came at times of much lower equity valuations and earnings. In March 2009, the S&P 500 index was down to 660, earnings per share (EPS) of US companies and banks had sunk to a financial-crisis low, and price/earnings ratios were in the single digits. Today, the S&P 500 is more than 100% higher (hovering near 1,430), the average EPS is close to $100, and P/E ratios are above 14.

Even during QE2, in the summer of 2010, the S&P 500, P/E ratios, and EPS were much lower than they are today. If, as is likely, economic growth in the US remains anemic in spite of QE3, top-line revenues and bottom-line earnings will turn south, with negative effects on equity valuations.

Moreover, fiscal support is absent this time: QE1 and QE2 helped to prevent a deeper recession and avoid a double dip, respectively, because each was associated with a significant fiscal stimulus. In contrast, QE3 will be associated with a fiscal contraction, possibly even a large fiscal cliff.

Even if the US avoids the full fiscal cliff of 4.5% of GDP that is looming at the end of the year, it is highly likely that a fiscal drag amounting to 1.5% of GDP will hit the economy in 2013. With the US economy currently growing at a 1.6% annual rate, a fiscal drag of even 1% implies near-stagnation in 2013, though a modest recovery in housing and manufacturing, together with QE3, should keep US growth at about its current level in 2013.

But there is no broader rebound underway. In both 2010 and 2011, leading economic indicators showed that the first-half slowdown had bottomed out, and that growth was already accelerating before the announcement of monetary easing. Thus, QE nudged along an economy that was already recovering, which prolonged asset reflation.

By contrast, the latest data suggest that the US economy is performing as sluggishly now as it was in the first half of the year. Indeed, if anything, weakness in the US labor market, low capital expenditures, and slow income growth have contradicted signals in the early summer that third-quarter growth might be more robust.

Meanwhile, the main transmission channels of monetary stimulus to the real economy – the bond, credit, currency, and stock markets – remain weak, if not broken. Indeed, the bond-market channel is unlikely to boost growth. Long-term government bond yields are already very low, and a further reduction will not significantly change private agents’ borrowing costs.

The credit channel also is not working properly, as banks have hoarded most of the extra liquidity from QE, creating excess reserves rather than increasing lending. Those who can borrow have ample cash and are cautious about spending, while those who want to borrow – highly indebted households and firms (especially small and medium-size enterprises) – face a credit crunch.

The currency channel is similarly impaired. With global growth weakening, net exports are unlikely to improve robustly, even with a weaker dollar. Moreover, many major central banks are implementing variants of QE alongside the Fed, dampening the effect of the Fed’s actions on the dollar’s value.

Perhaps most important, a weaker dollar’s effect on the trade balance, and thus on growth, is limited by two factors. First, a weaker dollar is associated with a higher dollar price for commodities, which implies a drag on the trade balance, because the US is a net commodity-importing country. Second, any improvement in GDP derived from stronger exports leads to an increase in imports. Empirical studies estimate that the overall impact of a weaker US dollar on the trade balance is close to zero.

The only other significant channel to transmit QE to the real economy is the wealth effect of an equity-market increase, but there is some circularity in the argument that QE3 will lead to a persistent rise in equity prices. If persistent asset reflation requires a significant GDP growth recovery, it is tautological to say that if equity prices rise enough following QE, the resulting increase in GDP from a wealth effect justifies the rise in asset prices. If monetary policy’s transmission channels to the real economy are broken, one cannot assume that QE will have a significant effect on economic growth.

Fed Chairman Ben Bernanke has recently emphasized the importance of an additional channel: the confidence channel, through which the Fed’s commitment to maintaining generous monetary conditions for longer could improve private spending. The issue is how substantial and durable such effects will be. Confidence is fragile in an environment characterized by ongoing deleveraging, macro uncertainties, weak labor-market growth, and a fiscal drag.

In short, QE3 reduces the tail risk of an outright economic contraction, but is unlikely to lead to a sustained recovery in an economy that is still enduring a painful deleveraging process. In the short run, QE3 will lead investors to take on risk, and will stimulate modest asset reflation. But the equity-price rise is likely to fizzle out over time if economic growth disappoints, as is likely, and drags down expectations about corporate revenues and profitability.

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  1. CommentedRobert O'Regan

    We all know that, without a gold standard, you can screw with the rate of interest and monetary policy to benefit specific groups....this is not new stuff; deal with the issue, please.

  2. Portrait of Christopher T. Mahoney

    CommentedChristopher T. Mahoney

    QE1 represented a 125% growth in the monetary base; QE2 represented a 30% growth. QE3, if it continues for six months, will represent 9% growth. Its scale builds with time, at $40B or ~2% per month. Right now it has zero effect, because the monetary base has not yet begun to grow.

  3. CommentedMarten Klein

    Easing is an euphemism for money printing. Aggressive monetary easing the road to hyperinflation. With easing dollars becomes an official banana currency. An issue, Mr. Roubini? Depends, hope the US FED know what they are doing, otherwise the US may quickly detroitify.

  4. Commentedsrinivasan gopalan

    Mr.Roubini has demonstrated the futility of persisting with monetary easing to artificially flood the money market, even when such unorthodox monetary mesures have their own limits. Given the structural rigidities embedded in the US economy it is not the availability of credit at zero rate that would fire up entrepreneurial animal spirit because basically the private sector is finding it difficult to pay back when times are bad like this on loans they had contracted at easier terms. Besides, productivity of labour and efficiency of capital need to be focused if the Federal Reserve seeks to have some result of its quantitative easing. The Federal Government cannot pursue a fiscal splurge policy when borrowings are easier for both State-funded programmes including bailouts of investment banks and to private sector which does not have any appetite to lap up funds for expansion and greenfield projects. The dilemma of fiscal and monetary policy coherence needs to be resolved before any contemplated surge in activity could supervene. This is as good a case for the United States as it is for India where the authorities had to zero in on unrelenting inflation that slaps the cruelest form of taxation on the poorest of the poor. G.Srinivasan, Journalist, New Delhi.

  5. CommentedRoman Bleifer

    QE3, as the previous QE, will only increase the scale of speculative financial transactions, but does not lead to economic growth. From another throw empty money GDP will not increase. And the risk that a financial bubble bursts significantly increased. The real economy does not get as credit and will not receive them. Throw-empty money does not solve the systemic problems, and the global crisis is systemic ( ). Need for reform of the stock markets. the current system of stock market investment is not fulfilling its functions and work on herself as a speculative system.

  6. CommentedZsolt Hermann

    As many of the other comments suggest this is simply another cosmetic surgery, like pouring petrol (more precisely virtual petrol) into a car that has no engine.
    Easing or stimulus only makes sense if it could kick-start something that has slowed down, stopped, but structurally still intact and can be restarted.
    But this is not true to the US or to the global economy.
    People are desperately trying to avoid looking at the real root cause of the crisis: the unsustainable and unnatural constant quantitative growth model.
    Besides in a global, interdependent network no individual or country can make unilateral decisions based on self-calculations since it changes, disturbs the mechanics of the whole network.
    Until people, especially today's leader start taking into consideration that we all fully depend on each other as we are interconnected whether we like it or now, and that in a closed and finite natural living system constant quantitative growth is impossible, we are going to slide deeper and deeper into this system failure.
    This is an unprecedented, evolutionary stage humanity has no historical experience for, thus first we need to study and understand where we are and how harmony and balance can be restored.
    We already significantly exhausted both the natural and human resources, thus there is not much time left to start building a new system before we are running out of options.

  7. CommentedDavid Rodrigues

    Same thing occurred during Japanese crisis, well I mean Japanese depression (when it's so long, it's not a crisis anymore :).

    Japan did the same fearing the systemic risk, injecting a so huge amount of liquidity and creating an unsustainable public deficit. All the financial and banking system stood unchanged (no need to change when they give you free money for your failures).

    So my question is : is a system based on growth possible for already grown countries, without huge amount of debt of course ?

  8. Commented Elizabeth Pula

    My following comments are twisting “Hard to be easing”. Really since, we’re in to the third round of QE, OMG! I am looking at the crisis ??? from a down-to-earth street view. Roubini and the other greats that are the lead contributors to this site take the high road. I live on a dirt road. So, I am going to use some statistics and comments starting with the ordinary day-to-day transactions of a dollar and dollars. Hopefully, ALL the PRICES that I have selected are what a dollar at that time could purchase at that time, and then I present some questions about the dollar today. And, yes, I think I am doing a more relevant “OPERATION TWIST”, than Bernanke couldn’t even dream about, if I can stay alive at least a year or so past 2014. But, I don’t want to digress too much so, to get back down to earth…….

    What is the price of gasoline in 2012, in 2012 dollars in the US?
    What was the price of gasoline a few years ago, relatively speaking?


    Average cost for a gallon of gas in the U.S. between 1998-2011:
    1998 — $1.03
 1999 — $1.14 
2000 — $1.49
    2001 — $1.43
 2002 — $1.34
 2003 — $1.56 
2004 — $1.85
2005 — $2.27
 2006 — $2.58 
2007 — $2.81 
2008 — $3.26
    2009 — $2.35
 2010 — $2.78
 2011 — $3.53

    So, now lets look at labor over a longer time period beginning from 1970’s through 2006, just to get an idea about wages and the distribution of earnings in the USA. AND what are you earning today in today’s dollar? AND what is the minimum wage today in today’s dollar? Could you buy gas and make a round-trip home on a minimum hourly wage today? Could you ten years ago? How many people have public transportation to go to work and get back home EASILY? Or would it take 3 hours or more roundtrip??? What’s affordable?


    (the whole article has some pretty good information to think about for a while. Even a 10-year-old can read it.)

    In 2006, there were approximately 116,011,000 households in the United States. 1.93% of all households had annual incomes exceeding $250,000.[6] 12.3% fell below the federal poverty threshold[7] and the bottom 20% earned less than $19,178.[8] The aggregate income distribution is highly concentrated towards the top, with the top 6.37% earning roughly one third of all income, and those with upper-middle incomes controlling a large, though declining, share of the total earned income.[3][9]
    Income inequality in the United States, which had decreased slowly after World War II until 1970, began to increase in the 1970s until reaching a peak in 2006. It declined a little in 2007.[10] Households in the top quintile (i.e., top 20%), 77% of which had two or more income earners, had incomes exceeding $91,705. Households in the mid quintile, with a mean of approximately one income earner per household had incomes between $36,000 and $57,657. Households in the lowest quintile had incomes less than $19,178 and the majority had no income earner.[11]

    Are you making more money or less money annually than you were 10 years ago? How many people do you think are making more money annually than they were 10 years ago?

    Now, let’s look at the price of milk. Just a snapshot comparision in 1999 and 2009 dollars:

    Gallon of milk $2.88 $3.05

    There is a great list of other comparisons, from this site:

    How much is a gallon of milk at your grocery store in 2012? Are you experiencing inflation or deflation of the US dollar?
    And, now to get a little bit nosy…
    Are you still earning a living where any kind of taxes are reported on your earnings? Do you report and actually pay any kind of taxes based on any kind of annual earnings? How about consumption taxes? Who pays the highest relative percentage of consumption taxes based on income, poor people or rich people? What's poor and what's rich?

    How has quantitative easing helped you financially in any kind of way? How has quantitative easing helped other human beings in your neighborhood, town, county in any way? If you have any, are any of your investments or real assets worth more than 10 years ago? What can you sell? What can you buy? How EASY is it to buy or sell what you need and what you think you may want?

    How many others of approximately 116,011,000 households in the United States can enjoy some fun times together, or are stuck between a rock and a hard place, caught in a real steal? Where are you after working 30 years or so? Where are you just getting out of high school or college?

    How many wage earners are really on easy street or any where near to it? How many can even get close to it, or ever find it in 2012?

    So, depending on actual numbers, estimated numbers, or general statistics, until more folks really have some extra money, rather than incomes allowing spending for only bottom-line essentials on a daily or whatever statistical basis, GDP is only going to change based on annual birth and death statistics, and the effect of those births and deaths on the GDP and basic consumption. What are the projected birth and death statistics for the US? What is the projected effects to annual GDP?

    And to include an effective austerity example to affect any economy:

    Is the activity in Syria the new trending, or the new repeat of a really old model of the most effective significant way to affect economic growth?
    Isn’t Syria using principles of austerity to the max? It’s not pretty. But, it works.

    What’s some practical alternatives at local levels, by local people?

    Any body got any practical ideas? And, of course, how and who pays for what, with what, and when, and where?

    1. Commentedjames durante

      Yes, this is a more detailed examination of the points i raised (and frank callaghan below). Only Obama's stimulus plan, most of it, went to middle and low income people. But it mostly just kept public employees at work and gave a little tax boost. All the trillions went to banks, gm, aig, qe's and zero interest rates (with historic record spreads between prime rate and the anks rates to customers). The rich win again even when they lose.

      I don't have any solutions at least any that are realistic given the political dynamics in place. Occupy was swept out of the parks by storm troopers, and no one seemed to object. I guess people accept that neo-fascism for dssenters is the flip side of bailing out the rich. Well, you can always join the "tea party." How Orwellian!

      The dam will have to break through sustained political turmoil and ten we hope that the rich will be forced to give way a bit. Otherwise we are ultimately facing a "golden dawn."

  9. Commentedjames durante

    We keep going around in circles. No aggregate demand due to excessive debt and stagnant or falling wages. The top 1% get 25% of the income and have 40% of the wealth. The gini coefficient for the US is on par with Russia, Venezuela, Argentina and a smattering of African countries.

    The wage squeeze has set corporate profits soaring and the cozy relationship between banks and DC means no serious financial reform.

    There is no mechanism for altering inequality, quite the contrary. So, invest in a luxury goods fund. What did Citigroup call it? The "plutonomy?"

    1. Commenteddalai guevara

      Correct, the increasing spiral of QE as preached predominantely by the UK and the US will further fuel inequality and commodity pricing. We will ultimately come to the point, where ENERGY will become unaffordable for large sections of society. Travel will reduce, heating your home will become unaffordable, up to the point where even renationalisation of the energy market will be on the table.

      Blimey, interesting times lie ahead.

  10. CommentedRay DAMANI

    All QEs are of the banks, for the banks, by the banks! (I exclude the English Queens Elizabeth.)

    Everything else is spin without real transmission fluid money into the pockets of working Americans.

    Free money for Wall Street and TBTF banks to earn risk free returns and artificially support their [formerly toxic] asset prices mean a GULAG ECONOMY for ordinary Americans and savers.

  11. CommentedJohn Wiederspan

    You can lead business to credit, but you can't make them borrow. Two more points: (1) Easy credit/low % rates, in many countries, was the cause of their troubles (2) Using central banks to stimulate an economy is to misuse the bank. As an old school monetarist, I can only sadly shake my head at the idea that a central bank should play any role in stimulating economic growth. Price stability is the alpha and the omega.

  12. Commentedhacim obmed

    The effect of QE3 will be a massive increase in price of stock, especially for companies with inelastic cash flow, regular dividends and a semi-monopolistic position that allows them to stay even with inflation. Examples would be AT&T, Tobacco companies, natural resource companies, railroads, certain REITs, some pharma/healthcare companies, and Master limited partnerships in the midstream energy business. Such companies will sell 20 or 30 year bonds while QE3 keeps rates low and will use the proceeds to buy back their own stock while their stock prices are a bargain. They will take on the maximum leverage possible now now now. Then in a few years inflation will tick up towards 10% and the bond prices will fall. They will retire the bonds with inflated money. The net result will be a huge contraction in the supply of stock and a huge increase in its value and in dividends. It is going to be great for investors who have capital. Sadly it will be a total wipe out for the real economy and for middle class people who work for a salary. As usual they will be screwed.

  13. CommentedFrank O'Callaghan

    What has happened to the world economy?
    Over the last half Century it has become more prosperous. That prosperity has been spread widely in a geographical sense. The benefits have accrued more narrowly in recent years in a social sense. Less than one million families have gained the greater part of the wealth of a world of seven thousand million people.

    What is the role of easing? It is currently a tool in the system that has created this unsustainable system. It does not address the core issue of inequality.

  14. Commenteddonna jorgo

    so you mean they needed stimulation ..but not from money becouse is very low valute (bond and gold).
    AND my opinion fiscal cliff can fix with stimulation recapitalize bank ..(this will not be imediatly )because is difficult but will give push for start..
    you know this is global poblem (GLOBAL) YOU KNOW BETTER OF EVERYONE WHY?

  15. CommentedIvan Kitov

    There is an internal controversy in your piece. There was some traction between QE and real economy in the beginning and then it disappeared somehow. What has happened to this traction and why it was not used to a greater extent? A simpler hypothesis is that there was no traction before and there is no traction now, with monetary policy just following natural evolution of system. It have saved the financial system, however.

  16. CommentedDoug Levin

    I admit to being confused. I thought that the channel for getting QE into the economy was federal government spending. The means described here all appear to this economy novice to be secondary or indirectly supported. Why isn't federal deficit spending of this QE money considered as a source for economic stimulation? Please Mr. Roubini if you would comment I would greatly appreciate it. Thank you.

    1. CommentedPaulo Sérgio

      QE is more of a money printing exercise than deficit/government spending. Very simply, the Fed prints money, the value of the dollar declines.

      It basically represents a wall of cash - liquidity - the Fed is targeting at specific points, mainly financial institutions. It hopes that there will be "enough to go around" to the average consumer who needs the credit to do a, b and c and create employment by doing so -- which lifts labor market sentiment, in turn lifting consumer sentiment. Consumers account for nearly 80% of US GDP.

  17. CommentedProcyon Mukherjee

    The relative ease with which monetary stimulus can be extended in the downturn (and therefore increase the balance sheet by bond buying), the same ability is halted to unwind the stimulus (and therefore sell the assets) when the upturn starts and this asymmetry in the transmission mechanism translates into shocks that impact the price-wage stickiness.
    The same is true as given in the recent IMF report on page 67, when it comes to fiscal deficits, where it is easier to operate with deficits in the downturn while difficult to reduce the same when the upturn starts.
    These asymmetries do not bode well with the general perception that monetary and fiscal actions can be made effective if the timing is right and is in measured dozes.
    Procyon Mukherjee

  18. CommentedLuke Ho-Hyung Lee

    If monetary policy’s transmission channels to the real economy are broken, what should we do? How can we fix them? That is the real question. Disappointedly, nobody has provided the answer.

    Please also see this article for fixing that broken channels: “A Real Market Revolution as a Solution for the Current Economic Crisis: A Reappraisal of Current Forecasts of Upcoming US Federal Deficit and Employment”