QE3 Is Destined for Failure

In Federal Reserve minutes from their meeting on Tuesday, is has become apparent that even against the will of many of the FRB members’ wishes, the Fed is going to pursue the idea of more quantitative easing. We have written before on numerous occasions and commented why this policy just does not work, and we stand by that hypothesis. This will be the third round of QE that has been imposed since the financial crisis of 2008 over the course of two separate administrations, yet we still have yet to see a significant economic recovery. In our opinion, QE policies have been one of a myriad of reasons why the economy has yet to turn around significantly.

Quantitative easing is defined as increasing the money supply by flooding financial institutions with capital in an effort to promote increased lending and liquidity. This can be done in several ways, whether it be putting money straight into the pockets of citizens as President Bush did in 2008, or by printing money and funneling it to lending institutions through either loan programs or the purchase of securities from those institutions. Either way, the idea is to supply the market with capital that can be spent on projects or consumer goods. What some economists and many politicians fail to realize is that there are more downsides to quantitative easing than good.

If QE were the end all answer, we would not be seeing a measly 1-3% GDP growth that we have been seeing since 2010. We should be seeing Reagan-era 7-10% growth, but the current administration simply cannot get a grasp on this haltered economy. The fact is that QE will provide a brief jolt to the economy, but nothing that will sustain or cause a take off in the economy. If I gave you $100 today, does that mean that you’re going to spend $100 a month for the next year? That is the logic behind QE, more money in your pocket today GUARANTEES sustained long term spending. This is clearly not a logical statement.

Another downside threat of QE is end result of inflation. More money in the supply means a less valuable dollar, it truly is that simple. Many figure heads will have you think that it is much more complex than that simple description which is why you should listen to them and trust them, when in reality their explanations are all smoke and mirrors. A common argument we have heard is that we have not seen substantial inflation since the last round of QE, but as Dock David pointed out in Ingredients for Inflation, M3 (money supply) has been decreasing and inflation has not been realized due to the lack of velocity (money turning over in the economy). This cash is literally sitting at lending institutions waiting to be loaned out in a market where nobody is borrowing.

One question that nobody seems to ask in regards to QE is this; where does the money come from? The easy answer is from the government, but let’s think about this realistically. In what way can a federal government that currently has no budget in place and is running massive deficits afford to supply more capital to the markets? As we mentioned before, one way could be through the printing of new currency, but this could lead to an inflated dollar that would be catastrophic for a recovering economy. Another other way is through spending by increasing government revenue…also known as hiking taxes. The final way is through debt financing, or the selling of government bonds. All three of these forms of obtaining capital for QE will ultimately result in hardship.

If the Treasury prints new money, ultimately we will face drastic inflation which will hurt consumers pocketbooks and put another halt on spending. The current administration cannot in any way justify hiking taxes, even on corporations and high earners. These are the people and individuals who are able to hire and who (of anybody) are out spending money right now. Having them pay their “fair share” would result in more jobs lost due to decreasing corporate after tax revenues and thus fewer dollars available for discretionary spending for both top earners and Main Street employees who will have lost their jobs due to downsizing. Lastly, the federal government cannot possibly consider debt financing this venture for many reasons. First of all, nobody in their right mind wants to buy bonds with interest rates as low as they are right now, and secondly the current administration is already taking flak for their willingness to run up a deficit, this action would not sit well with most Americans.

The answer is simple and I wrote about way back in Economics 101: Common Sense; we must cut taxes. Cutting taxes across the board would result in more money available for households to pay down debt and for discretionary spending while simultaneously allowing for corporations to hire new employees without the fear of hurting their bottom line. It truly is a simple answer, but instead of putting full faith in a tried and tested method, the Fed has shown that they are willing to engage in a policy which has failed twice over now. That is what we like to tell our readers is the definition of insanity; repeating the same action over and over and expecting to yield different results.

Ben Treece is a partner with Treece Investment Advisory Corp (www.TreeceInvestments.com) and licensed with FINRA (www.Finra.org) through Treece Financial Services Corp. The above information is the opinion of Ben Treece and should not be construed as investment advice or used without outside verification.
« Back to the blog.