Did the Fed's Monetary Stimulus Work?
In November, the Federal Reserve set out to lower unemployment and raise inflation through another round of monetary stimulus. This week its policymaking committee will meet again to discuss its current quantitative easing effort ("QE2"), which is set to end in June. It will likely say what we've been hearing for months now: the Fed will stay the course but will not comment on precisely what it intends to do after June. Was its decision in November to engage in QE2 a good one -- did it achieve the goals it set out to accomplish?
What Didn't Happen
Not a Big Gain in Jobs
One of the Fed's clearest goals in engaging in QE2 was to encourage the economy to create jobs. During the five months from November through March, 859,000 new jobs were added to the private sector. That's some progress, but in the five months before that, 520,000 new private sector jobs were added -- without QE2. Was the average monthly increase of 68,000 jobs really all the Fed hoped to create? And that assumes that the economy would not have naturally added some or all of those additional jobs even without the Fed's monetary stimulus.
Core Inflation Didn't Rise Much
The Fed's QE2 also sought to increase inflation, which the central bank argued was too low. For the five months since November, monthly core inflation -- which excludes food and energy -- averaged 0.14%. For the five months prior, core inflation was just 0.06%. So again, you do see some progress here, but was the increase enough for the Fed? (There's no use in pointing to rising commodity or oil prices, as those are generally not taken into account when the Fed looks at inflation trends.)
Borrowing Didn't Grow Much
Monetary stimulus seeks to encourage borrowing. That's the engine by which it intends to stimulate the economy. A New York Times article by Binyamin Applebaum argues that its progress was weak in this aspect as well:
Another indication of its limited success: Borrowing has not grown significantly, suggesting that corporations -- which are sitting on record piles of cash -- are not yet seeing opportunities for new investments. Until they do, some economists argue that the Fed is pushing on a string.
What Also Didn't Happen
Yet it isn't quite right to say that the Fed's accomplished nothing or completely failed.
Moving into November, the Fed was quite worried about the U.S. slipping into deflation. Although inflation remains relatively low, the economy certainly hasn't experienced deflation since QE2 began. Deflation no longer remains much of a concern. That's likely some consolation for the Fed.
No Double Dip
Moreover, even though job growth remained relatively modest, it surely could have been worse -- jobs could have shrunk instead. We saw hiring slow over the summer and the Fed may have worried that weak hiring could have driven down consumer sentiment and quickly turned into no hiring or even net firing. At this point, a double dip looks less likely than it did last fall, even if the recovery doesn't look a lot faster.
Stock Market Stagnation
The stock market has improved considerably since the Fed's second round of easing was announced in November. Since November 2nd, the S&P500 is up 11.6%. That's a pretty decent return in just under six months. Of course, this isn't terribly surprising, since the stock market loves monetary stimulus.
Explaining These Results
Ultimately, the successes and failures of QE2 are summed up succinctly by Economist Paul Krugman:
What I would say is that QE2 has been implemented in such a way that there was no reason to expect a lot of traction on the economy; the only channel through which we might have had large effects was via expectations. And that part mainly happened before the policy actually began.
Although $600 billion sounds like a lot of money, massive direct effects shouldn't have been expected by the Fed spending that over a nine-month period. Its faucet was running too slowly to flood the market with money and provide a dramatic effect. Moreover, it's a small fraction of the Fed's earlier $1.7 trillion effort to support the economy in the wake of the financial crisis.
What was accomplished by QE2 was mostly psychological. The market saw that the Fed would not allow the U.S. to slip into deflation, which helped keep inflation expectations from sagging. It also saw that the Fed wanted to put in some effort to improve the U.S. economy, so investor sentiment improved. Some consumers and businesses also likely appreciated the effort, even if spending and hiring didn't aggressively ramp up.
So was QE2 a success? It depends on how you define success. If the Fed does manage to exit effectively without its monetary stimulus resulting in very high inflation, then there's little reason to be very critical of the effort. Even if it didn't accomplish much, some improvement is certainly better than nothing. A broader effort might not have had better results but surely would have also made the Fed's effort even more difficult.