QE or Not QE: The Consequences Are The Same

It may look, swim and quack like one, but Federal Reserve Chair Jerome Powell insists that the Fed’s recent reinflation of its balance sheet past the $4 trillion mark isn’t quantitative easing. Oh no, he says, just because the Fed’s portfolio recently rebounded to $4.175 trillion at the middle of January, up from a six-year low of $3.76 trillion since the beginning of September, doesn’t mean that the Fed is back to its old QE ways, which had pushed the Fed’s balance sheet to a steady $4.5 trillion between 2014 and 2018 when it started to shrink.

But QE by any other name is still QE.

At least one voting member of the Fed’s monetary policy committee has expressed some concern about the recent boost in the Fed’s balance sheet – more than $400 billion in just the past four months.

“The Fed balance sheet is not free and growing the balance sheet has costs,” Robert Kaplan, the president of the Dallas Fed, told reporters at a recent Economic Club of New York event, according to the Wall Street Journal. “Many market participants believe that growth in the Fed balance sheet is supportive of higher valuations and risk assets. [That’s Fed-speak for a bubble]. I’m sympathetic to that concern.”

For the past 12 years, ever since the financial crisis in 2008, the Fed has swollen the size of its balance sheet – its holdings of U.S. Treasury and government-insured mortgage-backed securities – from less than $1 trillion to more than four times that. Its first burst of bond-buying took place in 2008, during the depths of the meltdown when its portfolio more than doubled in less than a year. It then gradually increased to more than $3 trillion over the next five years, at which time QE took it to $4.5 trillion, where it held steady until 2018, when the Fed started to allow its holdings to run off as they matured, until its recent policy U-turn.

And what was the direct result of all that buying? Why a 350% jump in the S&P 500 between March 2009 and a bull market in bonds that pushed yields on long-term government securities to record lows.

Now, however, even as the economy is growing at more than 2% annually, unemployment is at a 50-year low of 3.5%, and the stock market rally shows no sign of losing steam, the Fed feels it imperative to get back to stoking the markets with even more QE (sorry, Mr. Powell, it is what it is).

Why exactly is the Fed doing this?

Some of the reason is technical. Since last September, the Fed has been adding billions of dollars of funds in the form of repurchase agreements on almost a daily basis to ease a misbalance of funding in the short-term money markets. Big banks like JPMorgan Chase and Bank of America, instead of lending out their unused cash in the money market like they usually do, are holding onto it, forcing the Fed to pick up the slack. But the Fed also said it was easing monetary policy – by buying more securities and lowering its federal funds' rate target – as “insurance” against a downturn in the economy.

And, of course, there’s the Fed’s old standby, that it needs to do all this monetary policy pumping in its futile quest to raise the inflation rate above its 2% target, something it hasn’t been able to accomplish for the past 10 years despite Herculean efforts. If only the Fed could be as successful in raising consumer prices – as if consumers want that – as it has been in inflating asset prices.

It’s funny how the Fed never seems to consider what possible long-term consequences its asset-inflationary monetary policies might be having on the economy, at least not publicly. Mr. Kaplan is one of the few people on the Fed to suggest publicly that maybe it’s not all to the good (not that my IRA is complaining). The Fed has a long history of creating asset bubbles, like that boom in housing prices that planted the seeds for the global financial crisis that the Fed is still trying to fix 12 years later by inflating financial assets.

Way back when, when the Fed began its monetary policy journey in 2008 by lowering interest rates to zero and raising its balance sheet to $4.5 trillion, there used to be articles in the financial press about what the Fed’s “exit strategy” would be, i.e., returning interest rates and its balance sheet back to “normal.” You don’t hear about that much anymore. That could be because the Fed doesn’t actually have an exit strategy if it ever had one in the first place.

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George Yacik
INO.com Contributor - Fed & Interest Rates

Disclosure: This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.