VoxEU Column Global economy Monetary Policy


As the Fed announces a third round of quantitative easing, this column argues that it is unlikely to work. Investment and hiring are held back by huge uncertainty over the long-term outlook and the stimulus provides a monetary bridge over the election gap but little more.

In a brief press release, the Fed launched an extremely aggressive stance (Federal Reserve 2012):

  • As signalled in the last released FOMC minutes and in Bernanke’s Jackson Hole speech, the Fed recently launched QE3, its third attempt to boost growth and employment via asset purchases. It will buy US$40 billion worth of mortgage-backed securities (MBS) a month.
  • It confirmed that Operation Twist (extension of maturities held in its portfolio) will be extended though the end of this year.
  • In addition, the Fed has extended its forward guidance, indicating it now expects interest rates to remain exceptionally low at least through mid-2015.
  • Even more importantly, the Fed now “expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens”.
  • Finally, the statement opens the door to continuing MBS purchases, launching new purchases of other assets (such as US Treasuries), and deploying “other policy tools” until they can achieve a substantial improvement in the labour market outlook in a context of price stability.

The Fed has meanwhile upgraded its growth forecasts: GDP growth forecasts for 2013 are raised to a 2.5%-3.0% range (from 2.2%-2.8%) and for 2014 to 3.0%-3.8% (from 3.0%-3.6%); the growth forecast for 2015, released for the first time, is 3.0%-3.8%. The longer-run forecast, which should give us the FOMC’s view of potential growth, is unchanged at 2.3%-2.5%. Unemployment is forecast at 7.6%-7.9% in 2013, 6.7%-7.3% in 2014, slightly lower than previously projected, and 6.0%-6.8% in 2015.

The Fed sets its sights straight on the labour market, and stays true to its mantra that there has been no change in the US’ natural rate of unemployment. The statement that the Fed “expects that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens” sounds at first like an oxymoron. Once the recovery strengthens, there should be no need to maintain an extraordinary degree of monetary accommodation. But the Fed projects that in 2014, with GDP growth running a full percentage point above potential, unemployment will be barely lower than it is now, and only in 2015 it will get closer to 7%.

To be clear: the Fed’s position fully reflects its mandate, which is to pursue “maximum employment and stable prices”. (Actually, the mandate includes “moderate long-term interest rates”, see here, and here a few doubts could arise). With no visible inflation pressures so far, the Fed is drawing the logical conclusion that it should try as hard as it can to reach maximum employment. The question is what maximum employment is –whether it is still at a 5%-6% unemployment range, or 7% or higher, in which case structural measures would be required to bring it down. Linked to this is the question of whether potential growth might be significantly lower than we think – Robert Gordon (2012) has provocatively argued that economic growth might be entering a new era of lower growth.

This is admittedly an uncertain and controversial point. In a recent Vox column Calvo et al. (2012) make a strong case that a persistently higher rate of unemployment might reflect the nature of the financial crisis rather than a higher natural rate of unemployment, and that monetary policy can therefore help bring it back to pre-crisis levels. Their prescription, however, is that the Fed should act in coordination with the Treasury to remove toxic assets and bolster the stock of safe assets; a strategy with a strong structural component, which seems to me absent from the Fed’s current approach.

Investment and hiring are held back by uncertainty over the fiscal picture, which is compounded by the political uncertainty of the November elections. And the uncertainty is substantial for two reasons. First, Republicans and Democrats are on very divergent positions, to the point that the presidential election is being cast as a referendum on small versus big government. Second, the underlying fiscal challenge is substantial; just look at the Congressional Budget Office’s scenarios. Liquidity is not the problem, and more liquidity is unlikely to be the solution. For now, it’s the best we get, and in the short term, it is better than the disappointment we could have seen after the Fed had raised expectations. But we know from the movies that sequels can often have diminishing returns. I think that is even truer for QE.


Calvo, Roberto, Fabrizio Coricelli, and Pablo Ottonello (2012), “US Unemployment: neither natural nor unnatural”, VoxEU.org, 24 July.
Federal Reserve (2012), Federal Reserve issues FOMC statement, Press Release, 13 September.
Gordon, Robert (2012), “Is US economic growth over?”, VoxEU.org, 11 September.

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