It was the biggest emergency economic stimulus in history and now it’s over. The U.S. Federal Reserve’s once-in-a-lifetime program to buy immense piles of bonds, month after month, in an extraordinary effort to restart a recession-deadened economy came to an end in October 2014 after adding more than $3.5 trillion to the Fed’s balance sheet – an amount roughly equal to the size of the German economy. The bond-buying program, called quantitative easing or QE, had been controversial since its start in 2009, as had the Fed’s decision in 2013 to gradually reduce the monthly economic boost, a plan that became known as the taper. Whether the Fed tapered too soon, given global economic weakness, or too late, given signs of bubbles in some markets, was hotly debated. But even after the taper’s end the Fed continued to pump support into the economy the old-fashioned way, by holding its interest rates near zero.
The taper began in December 2013 and ended with a final $15 billion purchase in October 2014. Before the taper began there had been anxiety over how global markets would react, and in fact currencies and stock markets in emerging markets fell steeply in mid-January 2014, as investors prepared for U.S. interest rates to rise. But markets rebounded, interest rates stayed low and the Fed stuck with its plan. Janet Yellen, the Fed chair, walked a fine line, assuring the markets that its benchmark interest rate would remain near zero for a “considerable time” after the taper’s end — a level that in ordinary times would be seen as a massive stimulus. As the taper ended, Yellen hinted that the Fed may hang onto the bonds for years, which could give the economy a QE-like boost even after QE itself has been tapered out. The Fed also announced it would reinvest the proceeds from its bonds, which would have the effect of a bit more stimulus.
The idea behind QE is that you don’t need a printing press to add money to an ailing economy. The Fed’s usual method of fighting recessions is to push down the interest rates banks charge each other for overnight loans, which allows banks to offer cheaper loans to businesses. But the Fed cut that rate almost to zero during the financial crisis five years ago, and more was clearly needed. So the Fed began buying bonds in hopes of driving down long-term rates that are usually outside its control. It wasn’t a new idea, but it had never been tried on such a massive scale. In the months after the crisis, the Fed bought $1.75 trillion in bonds. In 2010, with the recovery flagging, it bought $600 billion more in what was called QE2. In September 2012, with joblessness stubbornly high, the bank began snapping up $85 billion a month in Treasuries and mortgage-backed securities — QE3. Unlike earlier rounds, the Fed’s purchase plan was described as open-ended, with officials saying it would continue until the labor market “improved substantially.” The idea was that reducing the bond purchases gradually — that is, tapering them off — would make clear that the central bank would continue to offer support for the economy, just at lower levels.
Almost since the first QE purchase, critics have been warning that it would spur inflation. They’ve been wrong so far. Price increases have remained consistently below the 2 percent the Fed regards as healthy. Others pointed to increases in the stock and housing markets as incipient bubbles fueled by the Fed. There’s also debate about how effective QE has been. Some economists see only a modest effect, coming mostly through lower mortgage rates. A former Fed official who executed the bond purchases, Andrew Huzar, charged that “while there had only been trivial relief for Main Street, the U.S. central bank’s bond purchases had been an absolute coup for Wall Street.” Yellen said that the pain for savers from low interest rates was more than offset by the help the policy has given to the labor market and the economy as a whole. One other side effect of QE was to increase the political pressure on the Fed. The Republican chairmen of the House and Senate banking committees have expressed unhappiness with the Fed’s policies, while others in the party are pushing for legislation to subject the bank to regular audits, an idea Yellen forcefully opposes.
The Reference Shelf
- A paper by the St. Louis Fed reviewing quantitative easing and the responses to the crisis of the Fed, the Bank of England, the European Central Bank and the Bank of Japan.
- The Fed explains how its monetary-policy committee works.
- The bank’s October 2013 policy statement.
- Josh Zumbrun’s Yellen profile in Bloomberg Markets Magazine.
- Yellen’s June 2012 “optimal control” speech backing QE and her Fed biography.
- Read UC Berkeley Economics Professor Brad DeLong’s presentation on Yellen.
- Ben Bernanke looks back on the Fed’s first 100 years and says how central banking has changed.
- Leading economists rethink post-crash macroeconomic policy at an IMF symposium.
First published Nov. 21, 2013
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