On November 3, 2010, the Federal Reserve announced a second round of quantitative easing, its unconventional bond-buying program. The first program, launched in 2008, had been halted earlier in 2010, but concerns over disappointing growth rates now led it to announce the second round, which was quickly dubbed QE2. The plan aimed at purchasing $600 billion in Treasury securities over the following year.
NOVEMBER 9, 2010
The new action plan announced last week by the Federal Reserve has prompted a good deal of delusional thinking and intellectual confusion. Primarily, of course, among ultraconservative Republicans, those eternal enemies of the federal government. Supporters of the Tea Party have gone so far as to demand the abolition of the Fed and a return to the gold standard. More surprising is that we’re seeing only slightly more measured fears coming from some European observers who are usually better informed. For the most extreme among them, the resort to money printing is a threat to world equilibrium. In Le Monde last weekend, the business columnist Pierre-Antoine Delhommais went so far as to question the mental health of Fed chairman Ben Bernanke. Good Lord.
Let’s take a closer look. It needs to be said clearly: the world today is in no way threatened by a return of inflation, which is now less than 1 percent in both the United States and Europe. The Treasury bond-buying program announced by the Fed comes to a total of $600 billion, less than 5 percent of American GDP. The idea that that kind of money creation could push us into hyperinflation makes no sense. At most, it would generate inflation of a few percentage points, which in reality would be an excellent thing. Today, there’s a far greater risk of deflationary stagnation, worsened by fiscal-austerity policies. In such a context, it’s perfectly legitimate for the Fed and the ECB to lend money to governments, whose public finances have been devastated by the financial crisis and the recession. What central banks are doing is reducing interest rates on public bonds, thus somewhat alleviating governments’ budget constraints, which is always a good thing in times like these. This can also halt market speculation of the kind we’ve seen in the Greek crisis. Clearly public deficits have to be reduced. But to do so too quickly, without the help of central banks, would be pure folly. It would only worsen the recession, defeating the purpose.
What’s odd is that two years ago everyone was defending the central banks when they were bailing out the private financial sector, even though that sector had caused the crisis. Clearly several decades of systematically denigrating the state has left its mark. And it’s ended up making us forget that central banks are not there to twiddle their thumbs. In times of serious crises they play a crucial role as lender of last resort. That role may well grow even bigger in the years to come.
Fortunately this reality is starting to be accepted in Europe. The board of the ECB, which can hardly be suspected of a fondness for inflation, overwhelmingly approved the decision of its president, Jean-Claude Trichet, to go ahead with his government bond-buying policy. The dissenting vote cast by Axel Weber, president of the Bundesbank, was sharply criticized, even in Germany. So now is not the time to be criticizing the Fed: we’ll need the ECB to do the same thing in the months and years to come.
But although central banks hold part of the solution to the current crisis, we shouldn’t exaggerate their power. Clearly neither they nor anyone else can change the fact that we’re living in an era of historic catching-up by poor countries vis-à-vis rich countries. That is, it’s a time when Europe and the United States are growing at 1 or 2 percent per year while China, India, and Brazil are experiencing annual growth rates of 5 or 10 percent. That will probably continue until the latter catch up to the former, after which the whole world will likely grow at a relatively slow pace. It would be better to get used to this unavoidable reality than to make the whole world pay for it.