Less than impressive employment numbers were released last Friday, August 6th. This is the third month of very anemic job growth and the US GDP is languishing at 2.4%. Companies aren’t hiring, banks aren’t lending, and real estate prices are sagging. Many believe we are at the precipice of a double dip recession. Americans are losing confidence and wondering what there can be done to help.
When the Great Recession began in 2008 there were a variety of tools the government used to combat the sinking economy; they slashed interest rates, created TARP, cash for clunkers, homebuyer tax credit, PPIP, etc. Though that stimulus was successful in preventing a Depression it hasn’t been enough to create significant economic growth.
Imagine the US economy is a giant cruise ship, the biggest in the world. The ship was full steam ahead for decades but then it ran into an iceberg in 2008. Massive amounts of water began to come aboard and it looked like we might sink. Our captain and crew were able to plug the hole and prevent utter disaster but many people were negatively affected in the process. Since then our ship hasn’t moved; we’ve just been bobbing around on the open water. At some points in the past 1 – 1.5 years there have been glimpses that our ship might once again get its massive engine started and move forward. However, recently it seems like the hole could start leaking again and sinking is a possibility.
How can the captain and crew (our government) prevent the hole from leaking again (a double dip recession) and get the engine started (economic growth)?
The answer is “quantitative easing.” Over the next coming days, weeks, and months you are going to see and hear this term quite a bit. Quantitative easing is a monetary policy used by central banks to increase the supply of money in an economy when the interest rates are at zero, or close to it. To accomplish this the Federal Reserve would print a massive amount of dollars, and then use those dollars to purchase government bonds and mortgage backed securities. When the Fed makes these purchases from banks or in the open market the banks receive cash thus increasing their money supply. Though they aren’t forced to, it is hoped that with this new money supply the banks then turn around and increase lending to the public, stimulating the housing market (through mortgage lending) and the growth of small businesses, which would also create jobs.
After months of unimpressive economic data, Friday’s job numbers seemed to make it clear to many people that it is time to implement quantitative easing. Still, others don’t believe the situation warrants any additional stimulus at this time, and others are anti quantitative easing no matter what negative scenarios might present themselves.
The most well known risk to quantitative easing is hyperinflation; print more dollars and each one is worth less. There are other serious risks to implementing this monetary policy. What if quantitative easing doesn’t work? If it doesn’t work what else is there for the government to do? What if the monetary policy works too well; we could go back to seeing irresponsible lending, like we saw from 2003 – 2008? What if banks choose to pocket the additional stimulus to increase their own capital reserves and choose not to lend?
Even with these risks, it is my belief that quantitative easing is a good idea… when the time is right. At this moment in time I don’t think it is warranted. Though our economy isn’t growing at the rate we desire our “ship” isn’t sinking. In my opinion, Friday’s unemployment number and the past 3 months of data are bad, just not bad enough to implement additional stimulus. If we start to take on water again and it looks like we might share the same fate as the Titanic, that’s the time to plug the hole with quantitative easing.
I always appreciate you sharing your opinions with me. Please write in and let me know what you think.