The article provides an overview of the concept of Quantitative Easing (QE) in the context of our current economic situation.

I don’t agree with many of its conclusions and insinuations, however.  In particular, the article seems overly positive on the idea of Quantitative Easing and its supposed positive effects, without providing significant discussion of its risks.

Quantitative Easing is an especially important concept now as I believe additional large-scale QE will continue to occur.  There are an array of risks embedded in such QE efforts.  Perhaps chief among these risks is the risk that excess “money-printing” poses to the currency.  The Barron’s article does acknowledge this by saying “Promiscuous growth in the money supply, of course, can both fan inflation and debase the currency.”  Although there has been virtually no commentary on the vulnerability of the US Dollar to substantial declines, I believe that such vulnerability does exist, as I discussed in the July 30 post.

Another large risk to QE efforts is that should QE prove successful in driving down interest rates, such a policy foments asset bubbles.  This is especially notable as many believe the housing bubble is but one example of an asset bubble that was caused by ultra-low interest rate policies.  My numerous posts concerning asset bubbles can be found under the “Bubbles (Asset)” category.  Asset Bubbles, and their future resolution, are an epic problem.

Most people fail to acknowledge the current existence of asset bubbles.  The Barron’s article seems to imply that no bubbles exist when it says “Damn the risks of triggering a bit of inflation and some modest investment bubbles.”

I will likely comment more upon the idea of QE once it is further implemented.

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SPX at 1083.61 as this post is written

From the report, page 1: “In this paper, we use the Moody’s Analytics model of the U.S. economy—adjusted to accommodate some recent financial-market policies—to simulate the macroeconomic effects of the government’s total policy response. We find that its effects on real GDP, jobs, and inflation are huge, and probably averted what could have been called Great Depression 2.0. For example, we estimate that, without the government’s response, GDP in 2010 would be about 11.5% lower, payroll employment would be less by some 8½ million jobs, and the nation would now be experiencing deflation.”

my comments: Needless to say, I don’t agree with many aspects of the report’s conclusions, focus and methodologies.

Much of my thoughts on intervention efforts, which includes stimulus, can be found under the “Intervention” category.

The main reason I highlight this report is for reference purposes.

I think the report will prove highly memorable, an iconic piece of the period.

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SPX at 1101.60 as this post is written

There is also a transcript of his remarks found here.

I could make many comments about this jobs stimulus.  However, as an intervention measure, it has many of the same characteristics of other interventions.  As such, my previous extensive comments about interventions are highly relevant.  Those posts can be found listed under the “Intervention” Category.

However, I will make two comments specific to this legislation:

First, the ARRA was supposed to be a “jobs creation” legislation.  On various levels it has not performed as intended with regard to job creation.  As I’ve pointed out before, we should be very cognizant of how previous stimulus bills have fared before enacting new ones.

Second, in President Obama’s comments he said, “I’m signing it mindful that, as I’ve said before, the solution to our economic problems will not come from government alone.  Government can’t create all the jobs we need or can it repair all the damage that’s been done by this recession.”  This entire idea of “creating” jobs or “stimulating” job creation needs to be intensely scrutinized.  Should government be attempting to “create” jobs – as seems to be the current widely accepted theory – or should job creation and job growth be an inherent feature of a strong economy?

_______

Here is a link to a blog series I have previously written titled “Why Aren’t Companies Hiring?” :

http://www.economicgreenfield.com/2009/07/24/why-arent-companies-hiring/

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SPX at 1159.90 as this post is written

Steve Forbes, Forbes Magazine, March 1 2010 p. 11 (link found here)

______

I have written extensively about interventions, which includes stimulus spending.   Stimulus spending and interventions are widely (and wildly) misunderstood.

I think it is very important to have a full understanding of how the ARRA, a  very large stimulus, is performing.   As I wrote in a July 9 2009 blog post in which I discussed the ARRA, “Even if one were unabashedly pro-stimulus, one would find some serious faults with the $787 Billion stimulus plan, as enacted.”  As such, it should be of little surprise that the ARRA has been, at best, such a poor performer when analyzed in a variety of manners.

Here is a recent article from Alan Reynolds concerning the effectiveness of the ARRA.   Although I don’t necessarily agree with some of his conclusions, he does present some interesting statistics and views with regard to how the ARRA has performed.

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SPX at 1102.34 as this post is written

http://www.sigtarp.gov/reports/congress/2010/January2010_Quarterly_Report_to_Congress.pdf

From the Executive Summary, which begins on Page 5:

also:

“….The substantial costs of TARP — in money, moral hazard effects on the market, and Government credibility — will have been for naught if we do nothing to correct the fundamental problems in our financial system and end up in a similar or even greater crisis in two, or five, or ten years’ time.  It is hard to see how any of the fundamental problems in the system have been addressed to date.

• To the extent that huge, interconnected, “too big to fail” institutions contributed to the crisis, those institutions are now even larger, in part because of the substantial subsidies provided by TARP and other bailout programs.

• To the extent that institutions were previously incentivized to take reckless risks through a “heads, I win; tails, the Government will bail me out” mentality, the market is more convinced than ever that the Government will step in as necessary to save systemically significant institutions. This perception was reinforced when TARP was extended until October 3, 2010, thus permitting Treasury to maintain a war chest of potential rescue funding at the same time that banks that have shown questionable ability to return to profitability (and in some cases are posting multi-billion-dollar losses) are exiting TARP programs.

• To the extent that large institutions’ risky behavior resulted from the desire to justify ever-greater bonuses — and indeed, the race appears to be on for TARP recipients to exit the program in order to avoid its pay restrictions — the current bonus season demonstrates that although there have been some improvements in the form that bonus compensation takes for some executives, there has been little fundamental change in the excessive compensation culture on Wall Street.

• To the extent that the crisis was fueled by a “bubble” in the housing market, the Federal Government’s concerted efforts to support home prices — as discussed more fully in Section 3 of this report — risk re-inflating that bubble in light of the Government’s effective takeover of the housing market through purchases and guarantees, either direct or implicit, of nearly all of the residential mortgage market.

Stated another way, even if TARP saved our financial system from driving off a cliff back in 2008, absent meaningful reform, we are still driving on the same winding mountain road, but this time in a faster car.”

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SPX at 1097.28 as this post is written

Here is a chart from the 12/15/09 Contrary Investor commentary that I believe is interesting, as it depicts some underlying residential real estate fundamentals.  It shows the equity and mortgage debt situation.  The underlying data is from the Federal Reserve Flow of Funds:

http://www.contraryinvestor.com/

As far as real estate prices are concerned, I would like to show two charts, both from the CalculatedRisk blog:

http://www.calculatedriskblog.com/

The first chart was posted on 12/21/09 and is the LoanPerformance Price Index from 1976:

Next, a chart posted on 12/29/09 showing the LoanPerformance Index as well as Case-Shiller, from January 2000:

As others have commented, it appears as if the overall intervention efforts are aimed at reflating (or to re-inflate) the housing bubble.  Conventional (investment) wisdom has held that reflating a burst bubble is impossible.

However, I think given the tremendously outsized intervention efforts in housing, we are truly in a unique situation.  I don’t believe there has ever been such a large intervention effort in our country, at least in the last 150 years.  Depending upon how one would measure such intervention efforts, it might even be among the largest interventions in world economic history.

A casual observer might assume that such an outsized effort would be destined to be successful.  However, (economic) life is not that simple.

From an ”all things considered” standpoint, I don’t believe the residential real estate bubble has actually burst.  It appears to me that it has somewhat deflated.  I base this view on a variety of fundamental and technical factors. 

Assuming this view is correct – that the residential real estate hasn’t popped – the implications are immense.   I think it is likely that one of two possibilities will occur from here, and each could happen in a relatively rapid fashion.  The first possibility is a “successful” reflation of the residential real estate market, with accompanying economic activity.  The second possibility is a collapse of the residential real estate market with accompanying economic repercussions.  As to the path real estate will travel from here - my previous writings on interventions, bubbles and real estate indicate my thoughts on the subject.

If a “successful” relation occurs, one is led to wonder as to the characteristics of such a “successful” reflation of the real estate bubble.  Among other critical questions is how long would such a reflation last?

I think it very important to note the quality and durability of the economic activity that occurred in the first phase of the bubble, which peaked in 2006.  Can one hope for any better outcome during a subsequent reflation?

These issues are critical to the concept of Sustainable Prosperity, of which I have previously frequently commented.

SPX at 1137.37 as this post is written

http://online.wsj.com/article/SB10001424052748704152804574628350980043082.html

My original comments on these developments was on December 28.

I feel it is critically important to understand the extent of intervention as it pertains to the housing market.  Fannie Mae and Freddie Mac continue to play an very large role in these intervention efforts. 

SPX at 1135.43 as this post is written

The commentary can be found at this link:

http://www.forbes.com/forbes/2009/1116/opinions-great-depression-economy-on-my-mind_print.html

While I don’t agree with everything that Ron Paul says, I did find this commentary to be very interesting and well worth reading.  Here are some excerpts that I found particularly noteworthy: 

“A false recovery is under way.”

also:

“This is nothing less than the creation of another bubble. By attempting to cushion the economy from the worst shocks of the housing bubble’s collapse, the Federal Reserve has ensured that the ultimate correction of its flawed economic policies will be more severe than it otherwise would have been.”

also:

“What is more likely happening is a repeat of the Great Depression. We might have up to a year or so of an economy growing just slightly above stagnation, followed by a drop in growth worse than anything we have seen in the past two years.”

SPX at 1095.85 as this post is written

However, despite all of the predictions of hyperinflation, there appears to be no signs of it.  One would think that if a hyperinflationary environment were present, gold would be a strong performer.  However, gold is currently near $945, a level near the upper range of its movements since 2008.

Of course, hyperinflation can still yet occur, but so far no manifestations appear evident. 

SPX at 996.36 as this post is written

As mentioned in the last post, there are varying perceptions as to its effect-to-date.

I would like to go back to earlier this year, before the stimulus was enacted. I would like to briefly discuss the plan at that point, as it, as well as the analysis that accompanied it, ostensibly represented (at the time) our national understanding of the economic situation, as well as the solution.

A report was published on 1/9/09 titled “Job Impact of the American Recovery and Reinvestment Plan,” commonly called the “Romer and Bernstein” report.  At the time, I found the report to be very unconvincing with regard to support of the proposed stimulus action.  The analysis, in my opinion, was very tenuous.

Even if one were unabashedly pro-stimulus, one would find some serious faults with the $787 Billion stimulus plan, as enacted.  Perhaps the biggest problem is that it is relatively slow to disburse funds.  If it were “front-loaded” it would be delivering funds at a much greater pace – and presumably be more helpful to the economy now, not later. 

There is another issue that this slow disbursement causes – that of measuring the effectiveness of the stimulus.  At this point, the stimulus is plainly lacking in effectiveness vs. plan, as measured by the unemployment rate.  However, some supporters of the stimulus are quick to point out that only a fraction of the funds have been disbursed; therefore, it is too early to assess the viability of the stimulus plan, as its benefits have largely yet to be realized.   Thus, a question forms:  is the stimulus ineffective, or will it just take longer to attain the benefits?   This question creates a conundrum in the following sense:  if the stimulus is ineffective, presumably (according to stimulus proponents) we should then quickly do more stimulus; however, if the existing $787 Billion stimulus has yet to largely “kick in”, then it would be premature to do additional stimulus.  Another conundrum can then be seen:  if we now assume that the $787 billion stimulus will work with time, but are later proven wrong, from a pro-stimulus viewpoint we will have wasted both time, and the ability to proactively stem further economic decline because we have passed on the current opportunity to do additional stimulus.  Thus, as one can see, this timing of the benefit issue has created a difficult and tricky situation, especially for those who are stimulus proponents.

Other problems I have found with the $787 billion stimulus (again, assuming the stimulus should be done) is that much of the theory and practicality of the stimulus is flawed; and the “pork” is very objectionable in both size and (lack of) quality.

Ostensibly, this $787 Billion stimulus represented a “best effort” attempt to improve our economic situation.  If one is of the opinion it is not working, or not working as planned, is it not working because it is poorly designed, or because the inherent concept of stimulus holds little or no validity?

For those that have not seen it, I wrote an article titled “Intervention’s Potential Blind Spots” as I believe that various facets of intervention (including stimulus efforts) deserve further attention.  It can be found here (under the Articles heading):

http://www.economicgreenfield.com/prosperitybypencom-directory/

SPX at 884.88 as this post is written

Copyright 2009 by Ted Kavadas