QE3 – It’s Already Working!
Well, that’s what some think we should be declaring. According to Paul Krugman QE is already working:
For almost fifteen years, some of us have argued that central banks can gain traction even in a liquidity trap if they can create expectations that money will remain loose after the economy recovers, generating modestly higher inflation. And that’s what the Fed’s new tack is supposed to achieve.
The right headline on that FT article should have been “QE3 working so far”.
It’s strange to me how so many economists take moves in markets in real-time to mean that certain policies are “working”. Secondary markets are a reflection of future expectations. They’re essentially the summation of the guesses of a bunch of evolved apes sitting in front of computers who think they can predict the future. These apes are inordinately ill-prepared to deal with the realities of the market place and their irrational and rather poorly evolved brains don’t efficiently digest all the enormous amount of information necessary to make prudent decisions. But as soon as a few million of these apes settle their trades at the end of the day we just go and assume that the prices are all efficient and accurately reflect the future fundamentals of the assets being exchanged. Of course, then these same apes wake up less than 12 hours later and sit in front of the same computers often times claiming the world has dramatically changed from just a few hours earlier!
If you ask this ape, that doesn’t make a whole lot of sense. So to assume that QE3 is “working so far” is the same as assuming that the apes who pressed a bunch of buttons last week at the NYSE were all making prudent, well informed, rational and predictive decisions. Of course, we saw many declare that QE2 had “worked” right after it was implemented. That worked out well. So well that we needed Operation Twist and now QE3. It’s like we have doctors working on our economic patient who just keep saying “don’t worry sir, THIS TIME the operation will be a success”.
Cullen Roche
Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.
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But Krugman is essentially right, isn’t he?
He contrasted his “QE3 is working so far” statement with the FT misguided “inflation expectations are up, trouble for QE3″ statement.
One week after the Fed announcement we have no economic data yet – except the expectations data. If expectations showed continued deflation (later confirmed by hard data) then QE3 would be in trouble, right?
The market reaction to a certain policy idea is no different than a stock spiking after the CEO announces a new venture. It’s essentially a guess about future operational outcomes. Sometimes the market is right, but often times the market is wrong. It’s just a bunch of people trying to front-run future outcomes. Many of these economists seem to think that the economy is going to pick-up momentum because expectations of future inflation will lead to future spending increases, etc.
Fed Governor Evans said it succinctly this morning. He called fears of Fed-fueled inflation “consistently wrong.”
Yes – but Krugman simply argued that the FT’s worry about inflation expectations was misguided – that increasing inflation is (or will be) a sign that QE3 is working, not failing.
He also made it rather clear that this early in the process it’s all just guesses: “QE3 is working so far“.
Fair enough. If economists want to say that a program designed to generate long-term recovery has been working for a week then I guess they can do that. But honestly, what’s the point?
the apes who pressed a bunch of buttons last week at the NYSE were all making prudent, well informed, rational and predictive decisions.
Some apes at the NYSE are more well informed than others apparently…
http://www.businessweek.com/news/2012-09-14/nyse-data-violations-extend-u-dot-s-dot-exchanges-reputation-woes
Good article, but the evolved ape thing???
Question. If we came from apes, as in we are a better “copy” or more evolved copy, then this is a stunning idea. An evolved “half-man, half-ape” copy would be more advanced than a basic ape.
Why do we still have apes (the lesser copy) and man (the advanced copy) but don’t have ANY transitional beings. Not even in the fossil record….
We don’t come from apes folks.
For years I’ve read Mr. Krugmann posts and some of his books with attention and sometimes admiration but he was another person at that time. I don’t know what happens to men, even brilliant men like him, just one time they are no more brilliant.
It is strange to me that people all the sudden view the Equity market as the most important indicator of whether or not Monetary Policy is working. It is no where near the size of the Bond market or the Currency market and yet people think it is the most important. It is not. Credit markets are way more important in addition to the other two mentioned earlier.
Krugman is just happy the Fed is finally doing things he wants. At the end of the day, when the time comes where people no longer believe the Fed can do what it says, that is when we will have serious problems. Humans have a history of expecting too much or often interpreting in the wrong way.
If QE3 is not a success then the Krugman Quatrains have been in vain.
Hmm, no offense, I like your commentary, but I seem to recall a certain commentator declaring that QE2 was a failure because interest rates jumped temporarily the week it was announced – even though it was a typical sell-the-news phenomenon. Kinda seems like a flip side of the same coin. Just trying to keep it honest.
I don’t believe I ever said QE3 had already failed because of one week of market action. I recall saying that one week of market action doesn’t mean mortgage rates will necessarily improve….
I saw a chart showing that UST yields rose all the time during QE2 (they fell only 2 months before the start of the program in anticipation). So the outright aim of lowering UST yields was counterproductive. But QE2 inflated the imagination of inflation forcing people to “hedge” in risk assets / commodities and sell USTs. As George soros say, it is not what actually is true that is important, but what people perceive. And people are conditioned like Pavlovian dogs to assume “inflation” if the Fed QEs. And people here means stock jockeys and not wage earners.
Krugman, like most politicians, has mastered the pathetic behavior of always claiming the unprovable, and retaining deniability after failure. He, like our politicians, will cite small, short term wiggles to substantiate success of his theories, and when success doesn’t come, will simply state that “my theory WOULD have succeeded if we had just done more of it”.
Krugman, and my two teenage boys, have NEVER been wrong. If you don’t believe me, just ask them. I personally wish we’d just toss Krugman into the trash bin for old politicians and choose to listen to people who are real problem solvers and not political cheerleaders. krb
Martin Wolf wrote an article supporting the Fed
http://www.ft.com/intl/cms/s/0/2526de00-00d3-11e2-9dfc-00144feabdc0.html
Methinks the two want a job in the “Committee”.
This QE takes so much of people’s time and energy. Plus it diverts everyone’s attention from fiscal policy.
What a waste, huh Ram? It’s like 100 doctors huddled around an operating table arguing over the best way to hit the patient with a sledge hammer.
Yeah total waste.
I want to learn some New Keynesian Economics to just understand how these people think. One thing I know for sure is that unlike apes, these models have highly prescient agents who are able to do some inter-temporal calculations (and rightly!) and somehow are able to behave, changing the macroeconomic outcome as a consequence. (As if his/her present income doesn’t matter).
The inflation expectations goes something like this: there is more inflation expectation, consumers think it is better to consume now than in the future because it supposedly optimizes his utility function.
I think Krugman thinks it is already working because inflation expectations have gone up and this will induce consumers to spend more … Hence he is saying it is already working.
“and this will induce consumers”
To be more precise, NKE/Krugman thinks this will induce consumers.
You might have better thoughts on this than I do, but it seems like a disconnect. Inflation expectations can rise in the near-term without a long-term follow-thru in wage inflation. It’s my belief that people tend to spend out of current/expected income. So, if inflation expectations rise then there will only be a follow-thru spending effect if wages actually rise as a result (or subsequently rise to sustain current spending). This can be seen best in this chart:
What you see is two big spikes in inflation in the last few years from QE1 and QE2. But what you also see is a persistent decline in wages. Ie, the spending power of consumers isn’t following through from the higher inflation expectations. The result is weak demand and a weak economy. Ie, QE worked in QE1 because we were in a deflationary spiral, but QE2 failed and QE3 is also likely to fail because it won’t result in a follow-thru in consumer spending because it lacks a transmission mechanism to cause a wage spike.
Cullen,
Good analysis. Yes I am saying something similar to you. I am saying Krugman thinks in that specific way in which inflation expectations have some major role but that is not right because in that model, people don’t spend out of current/expected income and it is based more on some utility maximizing into the future.
I completely agree with “the spending power of consumers isn’t following through from the higher inflation expectations.”. My comment was more about mind-reading Krugman (and DSGE and “New Keynesian Economics”) just for curiosity
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It’s funny, the consumer simply doesn’t know or care about TIPS breakevens and economists think he does!
Yes! It’s funny sometimes when you learn these different schools of thought. You have to learn how they think if you’re going to ever understand the conclusions they come up with. Sometimes it’s like some of these economists don’t actually go out in the world and live. But instead design models that fit some preconceived conclusion that validates a certain theory of theirs….Weird.
” I am saying Krugman thinks in that specific way in which inflation expectations have some major role but that is not right because in that model, people don’t spend out of current/expected income and it is based more on some utility maximizing into the future.”
Right. Its as if they think that people actually expect higher future incomes to go along with their expectations of higher inflation, or as if the income channel is driven by the inflation expectations channel.
I can tell you that most people working for someone else, people who rely on a paycheck from someone (most people) do NOT believe that their paycheck will rise in tandem with inflation. They feel poorer as inflation expectations rise (and they are in real terms quite often).
Now the owners of a business, do they behave in a way that induces them to spend/invest as their expectations of future inflation increases? Doubtful. If they think future costs will be higher, they will likely cut present costs, and it looks as if the story of the last few years bears that out.
I have come to the conclusion that what these inflation expectations economists really believe is that they see the drivers of our economies as those that take the big risks (true to a degree for sure), those that shoot big….. and they see our economies fate as tied to these benevolent dictators so to speak. We must rely on these extremely successful entrepreneurs to do the right thing and protect their investments and not get in their way. Its these guys’ inflation expectations that drive things because these guys are real sensitive to the erosion of inflation on their investments. If they see inflation in the future they will spend now to get the best deal they can.
This may be how a small segment of the population sees things and we will see if rising inflation expectations gives them a sense of urgency to do something productive now.
I dont think monetary policy is completely ineffective, i just think its clumsy, fraught with very bad side affects and too top down. I see it as actually more top down than fiscal policy, which interestingly is the criticism of fiscal policy by the monetarists. Just a different view of things? Or is there an actual definition of “top down” that can be discerned ?
I also follow wage trend. But I suspect something is different. There is probably a different dynamics we have missed. I base this on some observations.
If wage trend is down, we should see noticeable deleveraging behavior. But it seems the desire to deleverage is not found.
(1) Auto sales have been very strong. Difficult to continue to attribute it to pent up demand
(2) Retail sales have been strong as well. Granted, if one excludes inflation and population growth, the trend is probably flat (according to Doug Short). But profits don’t care about per capita spending. It only cares about total spending.
(3) Travel/hotel, leisure, restaurants all perform well. Where does the spending come from?
(4) People continue to flock to Apple products. Hard to see this if the consumer at large has little wage to spend
(5) Confidence continues to increase despite rising gas price through the summer. That’s got to be more than an election hubris
Is it because disposable income has actually outpace wages?
Doug Short has this chart
http://www.advisorperspectives.com/dshort/charts/indicators/DPI-per-capita-since-2000.gif
Maybe disposable income includes transfer payment, which has been a substantial part of income?
QE3 will succeed or fail based on US housing data. If sales of homes go up and home prices go up, especially if prices accelerate, then QE3 would be a success. If the mini-boom in house prices we saw this past spring and summer fizzles and prices flatten out or fall, then QE3 is a failure. The level of homebuilding is also an indicator. House prices affect a lot more people than equity prices.
It will take more than 1 year to know this for sure. House prices were already headed up because of constrained supply available for sale. Short term blips in house prices do not make a trend.
And I suspect, that even if house prices stay stagnant, QE-i will be proclaimed a success. If Fannie and Freddie survive and continue operating after their unlimited Treasury support ruins out on Jan 1 2013, QE-i will be a success. [Side note - if the GOP retains the House, one there is some real doubt that unlimited Treasury support for F/F can be extended past Jan 1.] If F/F are still operating 4 years from now and the Fed is still buying their MBS, QE-i will be a success.
One thing I’ve found contradictory about Krugman is he was famous for debunking the Asian miracle of the 90s as debt fueled, yet he had been silent on the same phenomena in the US, and now the solution is to QE everything.
You got it. Welcome to Krugman-think. He’ll flip views as often as we flip presidential administrations. He’s not credible as a problem solver, but politicians and media parade him out when it suits their purpose like some stage prop. He doesn’t seem to mind being used as a ……. krb
I think it’s important to note here that just because Krugman supports the Fed doing something doesn’t mean QE is his tool of choice. Rather, he’s been advocating for fiscal policy so much that he has proposed (tongue in cheek) a alien invasion to induce the government to spend on the proper scale.
LOL. Tell that to Joe Weisenthal.
“Secondary markets are [...] essentially the summation of the guesses of a bunch of evolved apes sitting in front of computers who think they can predict the future”
Brilliant.
As a normal person, glad to be employed, I am spending this year the same as I have spent for as long as I can remember.
QE1 was about $1,400B and lasted about 3 months.
QE2 was about $600B and lasted about 10 months.
To get to $600B with QE3 will take about 15 months at the current $40B/month.
Nice article and commentary as usual