When Will QE3 Be Announced?

[Gumby]

This has been fun. I will also confess that I don't know everything that I'm talking about. I'm just saying what makes sense to me (or what I think makes sense to me).

[moda0306]

My brain hurts.

I simply can't see the fed buying up very non-monetary assets as being the same as it buying the bonds the treasury printed in exchange for the cash it printed.

The fed may increase their reserves, but those reserves in excess of what's required represent loanable funds & savings of the people they bought homes from.

I agree that there's good reason to believe (today) that we're deleveraging and excess reserves will sit idle, but they're still saved & loanable funds held by the public.  Reserves may not cause inflation, but they are issued currency... only

LW,

I think it comes down to this argument chain:

1) MMT'ers say you can't have net-savings and profits without deficits.
2) You say, no, money can be created through QE (fed buying bonds OR other assets).  Money creation rests with the fed, not the treasury
3) I say, no, because when all the treasury is doing is swapping out green paper for blue paper (when it borrows from the public), and the fed's swapping out blue paper for green paper (when it buys back those bonds with printed money), nothing of substance is really being done other than manipulating the savings options we've been given within the government's hands.
4) You say, no, because the fed doesn't HAVE to buy those bonds, it can buy houses & widgets instead.
5) I say, fine, but they don't do that so why even consider it.  And since all we're doing when we go "into debt" as a country is exchange pieces of paper that both constitute money, deficit spending is the only true money creation because we're paying people to do things with money that we got (cash) for issuing money (bonds).  So we spent money for services, and swapped money for money... netting to one unit of money traded for one unit of services.

Is that about where we are?

If so, then I guess the next step is to say that you are either suggesting that the fed buy some crazy sh*t, or that the money supply not really expand because you agree with me that all these bonds they're buying are just another form of money.  I'm probably misquoting you somewhere in there.  Just trying to track where we've gotten ourselves.

Gumby,

None of us really know what we're talking about... we're just arguing based on quasi-knowledge of a complex idea of what exactly constitutes a medium of exchange, value, and the role of gov't.

[Gumby]

Ok, Moda (and LW). Check this out. From Morgan Stanley:

Morgan Stanley: The Fed and Money Printing

The Fed and Money Printing
December 08, 2010

By David Greenlaw | New York

"In his recent 60 Minutes interview, Fed Chairman Bernanke denied that the Fed was printing money.  This is entirely consistent with our own view (see Morgan Stanley Strategy Forum, 11/1/2010), but it appears to have generated some confusion and anxiety.  In fact, a commentator on CNBC indicated that Bernanke's denial of money printing would trigger a credibility crisis for the Fed.

QE2 departs from the textbook. The issue is confusing because all of us who took a basic undergraduate Money & Banking class learned that a central bank's open market purchase of securities was effectively the same thing as printing money. But the experience of the last few years has taught us that this logic is not always correct. In fact, Fed officials have been reluctant to adopt the QE terminology because the impact of asset purchases is all about rates – not quantities.

In the US, the Fed pays for bond purchases by crediting the reserve account of the bank that sold it the securities.  Assuming that the rest of the Fed's balance sheet doesn't change, this leads to an increase in bank reserves. So, the monetary base – which consists of currency plus bank reserves – goes up by the amount of the open market purchase. In every textbook written prior to 2009 that we have come across, the rise in the monetary base is assumed to be transmitted into a roughly equivalent rise in the money supply.  But, as we now know, this assumption is not always valid.  In the first round of Fed balance sheet expansion, which began in late 2008 and continued into 2009, the monetary base more than doubled and the money supply barely budged.  In textbook terminology, the so-called money multiplier – the ratio of the money supply to the monetary base – declined by about the amount that the monetary base rose. The Fed can create excess reserves, but it can't force the banks to turn these funds into loans or securities holdings.  In this case, the excess reserves are being stockpiled in banks' cash accounts.

Why did the monetary transmission mechanism break down? There is no easy answer, but it appears that a number of factors may be at work. First, banks seem to have a heightened need for liquidity. Second, banks are concerned about their ability to meet pending capital adequacy standards. Third, just about every bank manager who we have met with over the past couple of years has complained about a lack of lending opportunities ("the same banks going after the same deals" is the common refrain).  Fourth, in the aftermath of the credit crisis, there still seems to be a general elevation in risk-aversion at financial institutions.  Fifth, the Fed began paying interest on reserves in 2008, and this creates a slightly higher hurdle to lending or securities purchases than existed previously.

It's certainly possible that the current round of asset purchases will lead to a rise in the money supply, in contrast to the situation under QE 1. But we're not holding our breath.  The Fed does not seem particularly interested in eliminating interest on reserves, or trying to engineer negative short-term rates, because of the practical complications. And the other factors that appeared to contribute to a breakdown in the transmission mechanism still appear to be very much in place. We estimate that year-on-year growth in the monetary base will hit +30% over the next few months. While this is far less growth than seen in the first round of Fed balance sheet expansion, it is astronomical from a historical standpoint. Yet, we doubt that M2 growth will get much above +5%."

Fed will respond to inflation as needed.  Interestingly, the market moves that we are seeing in currencies, commodities, inflation expectations, etc., appear to reflect a belief that the Fed has been printing money - or will do so at some point down the road as the money multiplier normalizes.  Bernanke tried to address this point in the 60 Minutes interview. He indicated that the Fed could raise rates in "15 minutes" if necessary and that he is "100%" certain of the Fed's ability to respond to an inflation threat.  Of course, it remains to be seen whether the Fed will follow through on this pledge - and it remains to be seen what the FOMC will consider to be a legitimate inflation threat.  But the market moves that appeared to coincide with the reintroduction of Fed asset purchases reflect speculation - as opposed to a fundamental supply/demand shift - because there hasn't been any money creation to date.  Ultimately, the success or failure of the Fed's asset purchase policy will depend on an interest rate transmission mechanism, not a quantity channel.
Source: Morgan Stanley: The Fed and Money Printing

Of course, M2 climbed above 5% after April 2011, and has climbed significantly since July. But, I still find this all fascinating.

[stone]

Moda, "MMT'ers say you can't have net-savings and profits without deficits"

I think it is very important to be absolutely clear that MMTers say that profits can come from deficits AND/OR from spending existing profits. The need for deficits is wholely due to existing profits getting net saved.

MMTers talk about "vertical creation of net financial assets" by deficit spending. The increase is normally an increase in bonds NOT an increase in bank reserves because bank reserves are spent to buy the bonds $ for $. So at time A the public has $1T in bonds and $1T in bank reserves. After a couple of decades of deficit spending, the public has $2T in bonds and $1T in bank reserves. The MMTers would say that net financial assets have increased from $2T to $3T. What QE does is to keep the publics net financial assets the same but to convert it round so that the public has $2T in bank reserves and $1T in bonds. MMTers say that the M2 money supply doesn't care whether the public's net financial assets are in the form of bonds or bank reserves. If M2 is say $20T before QE it will stay $20T after QE. Banks are not limited by bank reserves so increasing something that is not limiting is pushing on a string.
As Gumby says, the extra liquidity of bank reserves does reduce the frictions for commodity speculation so despite the assertions of MMTers, QE does increase commodity price volatility. It similarly can facilitate the transient blowing of stock market bubbles.