Acts of Desperation

Last week, immediately after the election, the Fed announced that it would expand its 'Quantitative Easing' – another more acceptable term for printing money – by $600 billion (just so we remember, sometimes its better to use the actual zeros for the orders of magnitude:  that's $600,000,000,000) in purchase of US Treasury bonds.  This is an act of desperation of the first order, utilizing untested monetary tools no-one ever thought would be necessary.

With the loss by the Democrats of the election (as a result of not doing enough in my opinion, not too much), this move came as no surprise.  Although fiscal policy actions by the federal government through direct expenditures for goods and services (think road, trains, research, and education) is the best and proven way to stimulate the economy, this was not to be.  In fact, proposed government action is exactly the opposite.

This action is likely to ineffective.  Free capital markets allow the capital put into circulation to go to markets offering much higher returns than the US, such as those in developing economies that have interest rates of 8% or more (as opposed to a real negative rate on US funds).  Thus the funds are likely to tend to produce significant asset bubbles and high inflation in the recipient economies, while doing little for the domestic economy.

If the state and federal governments really do reduce spending, as they seem likely to do, watch out and batten down the hatches as we revisit lessons which should have been learned in the early 1930's.