Central Bankers will never openly admit that they or their policies have failed. Moreover, they do not rush into sudden tightening (more on this in a moment). But one can begin to notice subtle changes in their language and actions that indicate they have noticed what’s happening in Japan (the failure of the BoJ’s “shock and awe” QE program to generate growth).
Nowhere is this more clear than at the US’s Federal Reserve or Fed. Indeed, starting in August 2013, various Fed officials began questioning the efficacy of QE.
First came the San Francisco Fed with a study revealing that QE generally doesn’t appear to generate economic growth:
Asset purchase programs like QE2 appear to have, at best, moderate effects on economic growth and inflation. Research suggests that the key reason these effects are limited is that bond market segmentation is small.
Moreover, the magnitude of LSAP effects depends greatly on expectations for interest rate policy, but those effects are weaker and more uncertain than conventional interest rate policy. This suggests that communication about the beginning of federal funds rate increases will have stronger effects than guidance about the end of asset purchases.
A few months later, the former Fed official in charge of the Fed’s first round of QE, penned a Wall Street Journal article stating that QE was in fact a Wall Street bailout.
I can only say: I'm sorry, America. As a former Federal Reserve official, I was responsible for executing the centerpiece program of the Fed's first plunge into the bond-buying experiment known as quantitative easing. The central bank continues to spin QE as a tool for helping Main Street. But I've come to recognize the program for what it really is: the greatest backdoor Wall Street bailout of all time…
It wasn't long before my old doubts resurfaced. Despite the Fed's rhetoric, my program [QE] wasn't helping to make credit any more accessible for the average American. The banks were only issuing fewer and fewer loans. More insidiously, whatever credit they were extending wasn't getting much cheaper. QE may have been driving down the wholesale cost for banks to make loans, but Wall Street was pocketing most of the extra cash.
Around this time, the Fed began to taper QE first by $10 billion in December… and another $10 billion in January. By this point even uber-dove Fed President Bill Dudley (he formerly claimed inflation is low because iPads are getting cheaper) even admitted the following:
We don't understand fully how large-scale asset purchase programs work to ease financial market conditions—is it the effect of the purchases on the portfolios of private investors, or alternatively is the major channel one of signaling?
At this point, Ben Bernanke handed off the reins for Fed Chairman to Janet Yellen. Yellen has since continued Bernanke’s tapering projects, reducing the monthly QE spend from $65 billion to $55 billion.
The failure of the Bank of Japan’s massive QE program and the Fed’s decision to taper are not unrelated. Take a look at the timeline.
· April 2013: Japan announces a “shock and awe” QE program.
· August 2013: San Francisco Fed economists (where future Chairman of the Fed Janet Yellen is President) write a study showing QE is ineffective at generating economic growth.
· November 2013: Former Fed officials admit QE was not meant to help Main Street.
· December 2013: the Fed begins to taper its QE programs by $10 billion
· January 2014: Bernanke’s last FOMC as Fed Chairman, Fed announces another $10 billion taper
· March 2014: Janet Yellen takes over at the Fed and announces another $10 billion QE taper.
This represents a tectonic shift in the financial markets. It does not mean that Central Banks will never engage in QE again. But it does show that they are increasingly aware that QE is no longer the “be all, end all” for monetary policy.
Investors take note. One of the primary market props of the last five years is being removed. What happens when the markets finally catch on?
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