Over the course of the last year, a third round of quantitative easing was a topic debated by many Fed-watchers as they mulled the status of the U.S. economy. The conclusion was fairly equally divided. Until yesterday. Without suggesting additional purchases of assets, the FOMC released their statement on the assessment of the economy in which they remain committed to “exceptionally low levels for the federal funds rate at least through late 2014.”
The slightly positive tone within the statement, as well as the increase in the central tendency of projections, have drastically reduced the expectations of QE3. Not mine however, as mine were already at zero. From my post on June 10, 2011, Of Course We Won’t Have QE3:
In an age of deleveraging, M2 is growing. The average rate of increase in M2–over the course of the last 10 years–fluctuates between $400 and $500 billion; M2 is exactly in that range today. In order to achieve that, M1 is at historical highs. This is the first reason there will be no QE3.
The Fed has done its job; and monetary policy has run its course. However, the economy is still soft and requires additional support–that is, more fiscal stimulus… But depending on the resolution of this issue, the Federal Reserve, in an act of desperation, may attempt to replace the lack of fiscal response. This may include an extended-extended Fed Funds Rate. It is very unlikely additional monetary measures will be effective.
Let’s recap the 11 months since my post. No QE3. Fiscal irresolution. FOMC time-frame extended. Soft economy.
Additional purchases of assets will still be ineffective as Bernanke knows the key to the economy is housing. The FOMC statement noted that the housing sector “remains depressed” and home prices in 20 U.S. cities have fallen 3.5% during the twelve months ended in February, according to the S&P/Case Shiller Composite-20 City Home Price Index. The purchasing of houses is not something that can be directly affected by monetary policy. But monetary policy has done an adequate job of allowing for fiscal policy–and to some extent societal trends–to affect housing. However, fiscal policy has been inadequate altogether and the current societal trend is cautious (to say the least).
The Fed will need to continue to accommodate factors outside of monetary policy jurisdiction. In sum, the housing market will not bottom until after the Federal Reserve raises interest rates; and they won’t do that until they’ve completely reversed the quantitative easing programs. But before that happens, the M2 rate will need to be able to grow faster than $400 billion YOY on its own. Below is an updated chart from my previous post.