Tuesday, March 26, 2013

Quantitative Easing Can Improve Unemployment, Really?

This was revolutionary when Ben Bernanke (U.S. Federal Reserve chairman) announced on September 13, 2012 to initiate his QE3 (third round of quantitative easing policy) that exit of U.S. quantitative easing program shall depend on the degree of improvement in unemployment market. Source: Quantitative Easing (QE3) Policy. Mandates of U.S. Federal Reserve then became much wider than maintaining economic growth as well as price stability.

Ben Bernanke (U.S. Federal Reserve chairman) further announced later on December 12, 2012 to initiate QE4 (fourth round of quantitative easing policy), stating more precisely (although still no specific timeline) that the existing federal funds rate will remain exceptionally-low if U.S. projected annual inflation rate (which is inflation expectation) stays below 2.5% (for overall price stability) and unemployment rate stays over 6.5% (for labor market recovery).

Although current inflation risk is still not a key concern in U.S., maintaining price stability is already a problem for certain fast-growing countries, and potential asset bubbles have already hindered economic growth of particularly China, India, Singapore etc in Asia region.

Will Quantitative Easing Policy Really Improve Unemployment Market?

However, if you have a closer look, how can the lower rates of MBS (Mortgage-Backed Securities) can directly improve U.S. unemployment rate data? There is indeed no economic evidence that these two elements (unemployment and mortgage rates) are directly related. Yes we agree that housing market is very important for U.S. economy and, by definition, buying MBS can also support mortgage markets and reduce the overall mortgage rates. However, low mortgage rates may (just theoretically) save the weak U.S. property market, not necessarily unemployment market. In reality, while keeping interest rates low looks good, it is just good for borrowers. For lenders (such as international bankers), it cannot provide them enough incentives or may even discourage them lending out long-term mortgage money to homeowners. So an obvious question is: if QE3 or QE4 policy cannot help mortgage or housing market much, how can Federal Reserve expect it to improve U.S. unemployment rate significantly?

Moreover, we anticipate that real-estate market is not the only problem there. Just similar to what we stated above, the low interest-rate environment will discourage lenders (eg: international or local bankers) lending out big money to support long-term economic development, especially that OT2 (Operation Twist) will surely mark down longer-term lending interest rates in the market. In addition, by definition, accommodative QE (Quantitative Easing) policy will also evaporate their interest earnings since longer-term inflation expectation is high. It appears that additional QE package can just encourage banks lending out short-team money (because Operation Twist will also mark up shorter-term lending interest rates in the market), but it can be harmful for companies that have longer-term financing needs. For this reason, very few companies can effectively plan for their long-term strategic business development and this will hurt the longer-term competitiveness of these U.S. companies. That means even U.S. Federal Reserve makes its Quantitative Easing (QE) policy more accommodative, it still fails to build sufficient business confidence to make U.S. local companies more willing to hire, invest, or spend. As a result, it possibly makes it easier for other companies which can get long-term funding outside the U.S. and focus on longer-term business development plan to stand out in the future.

Of course, as you can also predict, large worldwide corporations will not get hurt because they can obtain multiple funding sources internationally with ease. The problem will certainly go to SMEs (Small-and-Medium-sized Enterprises) locally in U.S. So another question is: if quantitative easing (QE) policy or accommodative credit easing program can hinder long-term development of SMEs, how can Federal Reserve expect it to improve U.S. unemployment rate in longer run, especially for the structural unemployment?

While global economic development will be more and more complicated in the future, one thing can be clear now is that large financial institutions will remain greedy and will continue to make use of market forces to push U.S. Federal Reserve to print more money. It is because those large financial institutions need U.S. Federal Reserve to buy back their bad MBS (Mortgage-Backed Securities) assets so that they can cover their losses they mistakenly made prior to the global financial crisis. But what if U.S. government or Federal Reserve demands these greedy financial institutions to pump money to get the weak economy back on track? It is more than unlikely that large financial institutions will do so especially if the lending interest rates are just too low for them to earn enough profits. That is perhaps why quantitative easing (QE) policy or accommodative credit easing program can just be good for stock market performance, not too much for the real economic recovery or employment market improvement.

Though it is hard to expect QE (Quantitative Easing) policy or accommodative credit easing program can really improve U.S. unemployment rate, labor market can still be possibly recovered as the next economic cycle naturally arrives (just not recovered by QE program). However, it can be very questionable whether such employment market recovery will be sustainable in longer run.

We regard QE3 policy as a kind of exit strategy for the whole U.S. Quantitative Easing Program, as it exactly outlines a strategy how U.S. Federal Reserve will finally exit from all QEs and credit easing policies. QE4 program, by definition, should then be regarded as the exact exit criteria that accommodative QE policy will not continue to carry on if U.S. unemployment rate becomes less than 6.5%.

Although we are not as optimistic as U.S. Federal Reserve that quantitative easing (QE) policy or accommodative credit easing program can really improve unemployment condition and promote economic recovery in longer term, we do sincerely hope that more people can get their jobs back so that not only the large financial institutions but also the less-fortunate people can earn.


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