To QEfinity and Beyond? Nope

More

Waiting for QE3? You'd have better luck with Godot.

If past performance is any guide to future policy, the Fed won't expand its balance sheet any further unless inflation falls significantly. The below chart compares changes in the size of the Fed's balance sheet (blue) versus core inflation (red) since the start of the Great Recession.


FedBalanceSheet.pngThe basic story is that the Fed has only acted when inflation falls below its comfort level. The first instance came in early 2009 -- back when the idea that the world as we knew it was ending didn't seem like such crazy talk. Core inflation was faling sharply, and markets expected outright deflation as a very real possibility.* The Fed responded with QE1. It wasn't until core inflation subsequently fell to around a half of a percent in late 2010 that the Fed embarked on QE2. 

With core inflation currently hovering above 2 percent, QE3 is off the agenda -- for now. Actually, we don't even need to extrapolate from the past to know that. The Fed has told us this. Here's the relevant passage from its most recent minutes.

A couple of members indicated that the initiation of additional stimulus could become necessary if the economy lost momentum or if inflation seemed likely to remain below its mandate-consistent rate of 2 percent over the medium run.

There it is. If you want to know if and when QE3 is coming, just look at core inflation. If it settles below 1 percent, the Fed will consider additional asset purchases. If it doesn't, the Fed won't. At most, the Fed will continue to try to talk down long-term rates by promising to keep short-term rates low for an extended period. That matters, but it's not what markets are looking for now. But they should stop looking. Godot isn't coming.

___________________________

*So-called break-evens can be a less than reliable guide to inflation expectations because Treasury Inflation-Protected Securities (TIPS) are much less liquid than their nominal cousins.

    >

    Jump to comments
    Presented by

    Matthew O'Brien

    Matthew O'Brien is a former senior associate editor at The Atlantic.

    Get Today's Top Stories in Your Inbox (preview)

    The Remote Warehouse Where Confiscated Wildlife Ends Up

    A government facility outside of Denver houses more than a million products of the illegal wildlife trade, from tigers and bears to bald eagles.


    Elsewhere on the web

    Join the Discussion

    After you comment, click Post. If you’re not already logged in you will be asked to log in or register. blog comments powered by Disqus

    Video

    Is Wine Healthy?

    James Hamblin prepares to impress his date with knowledge about the health benefits of wine.

    Video

    The World's Largest Balloon Festival

    Nine days, more than 700 balloons, and a whole lot of hot air

    Video

    The Origins of Bungee Jumping

    "We had this old potato sack and I filled it up with rocks and dropped it over the side. It just hit the water, split, dropping all the stones. And that was our test."

    Video

    Is Trading Stocks for Suckers?

    If you think you’re smarter than the stock market, you’re probably either cheating or wrong

    Video

    I Spent Half My Life Making a Video Game

    How a childhood hobby became a labor of love

    Writers

    Up
    Down

    More in Business