Perhaps at best, quantitative easing does not cause higher inflation. At worst, some argue it is actually deflationary. The latter argument, however, will not get much support at the Federal Reserve, at least not yet....
My view is that asset purchases would be most effective if coupled with fiscal stimulus. Working only through financial markets may be simply too restrictive to yield broad-based economic improvement. It is almost as if the Fed is trying to force a fire hose of policy through a garden hose. Keep turning up the volume, and eventually that hose bursts. And that might be what we are seeing in Japan.
Bottom Line: Infaltion expectations are falling, and that by itself should complicate the Fed's expectation that they can start scaling back asset purchases at the end of the summer. But falling inflation expectations may complicate monetary policy more broadly by revealing the limits to quantitative easing. And Japan isn't helping.
Tim Duy's Fed Watch
Falling Inflation Expectations
Tim Duy
1 comment:
It strikes me as hilarious the lengths Tim Duy goes to explain things on the basis of psychology, instead of examining what QE actually does in terms of reducing interest expenditure by the government. Here's Tim:
"one could argue that the Fed can indeed affect inflation expectations and really what is going on is that the Fed botched policy. Again... Inflation expectations turned down in March, just when the Fed started sending signals that tapering was on the horizon... In short, just by talking about tapering in an uncertain economic environment, the Fed pulled the plug on a successful policy."
By this line of reasoning, the Fed should induce inflation by putting a gag order on all Fed members. The party line should be that QE is working and will work forever. Ridiculous.
At least he also considers the possibility that QE is actually deflationary. That's progress I suppose.
The graphs seem self-explanatory -- QE certainly does not lead to more inflation. I think you'd see same thing if you looked at experience with QE in Japan and the UK. So kudos also to Tim Duy for publishing these graphs and clarifying the empirical QE-inflation relationship...
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