“Don’t buy anything you don’t understand,” seems to be the most universally ignored advice on Wall St. Some would argue that only a select few understood the toxic assets which brought down companies such as Lehman Brothers in 2008, and accordingly, I argue that the average American would not comprehend such factors. Unfortunately, the consequences of the recession still linger today and apply to Americans who may not have even heard the phrase “Subprime Mortgage Crisis.”
In August, the U.S. unemployment rate fell to 8.1 percent, down from 8.3 percent in July. While this is a significant piece of good news, reflected by the Dow Jones Industrial Average climbing 3.88 percent since the news release from the Bureau of Labor Statistics on September 7th, I believe the Federal Reserve’s (Fed) actions to buy mortgage securities and Treasuries from banks and other investors as part of Quantitative Easing 3 (QE3) will not produce the effect necessary to fix the U.S. economy beyond Wall Street.
Quantitative Easing is one way the Fed spurs the U.S economy out of recession. Having already used other monetary policy to its fullest extent by lowering the interest rate to near zero, Quantitative Easing is essentially another form of medicine when the economy has shown that it is immune to traditional forms of stimulus.
Some problems exist with QE3, which I feel have been stubbornly tuned out by investors and U.S citizens. First, there is no guarantee that QE3 will lower unemployment as is intended. Second, it further extends our debt, which is set to reach a ceiling yet again. Third, the risk of future inflation should not be discounted even though it cannot be fathomed right now.
QE3 is mostly a bond-buying program intended to push the yields down on mortgage-backed bonds specifically. By printing money and buying these mortgage-backed bonds from banks, the Fed pushes more money into the economy. The intention is for this money to be lent to companies for investment in equipment. This is a boon for the economy, but how does it affect the unemployment rate?
There is no guarantee that the banks will use the money to lend to small business for hiring, or for individuals to buy homes, cars, etc. Instead, when the yields on the bond asset-class shrink, other securities like stocks become more attractive — hence last week’s rally. The government’s money has simply pushed investors from bonds to stocks; again, there is no guarantee here that hiring will occur in droves — wasn’t that supposed to be the point of QE1 and QE2?
Second, the indefinite $40 billion per month program will only extend the central bank’s current $2.85 trillion balance sheet. With credit rating agencies warning of another credit downgrade if the U.S. cannot reduce its $16 trillion debt outstanding, the Fed should consider our national debt before printing more money.
As soon as the U.S. hits the debt ceiling that was controversially extended last year, the festivities may end.
Nobody thinks about inflation when you are earning .05 percent in your main savings account, but there will come a time when all this printing will catch up. Printing more money devalues the current supply. In fact, the cash in your wallet is already being devalued. The common idiom “Anything too good to be true usually is” applies to the insanity of printing money to reliably sustain an economy.
Herman Cain recently related QE3 to Einstein’s famous definition of insanity: “Doing the same thing over and expecting a different result.”
Andrew Kouri’s column appears biweekly Thursdays in The Cavalier Daily. He can be reached at a.kouri@cavalierdaily.com.
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