How the Federal Reserve's QE Has Contributed to Inequality
hello and welcome to new economic thinking I'm here today with Professor Gerry I've seen know of the University of Massachusetts at Amherst Gerry thanks for being with me thanks for talking so I'm going to ask you a bit of a loaded question quantitative easing did it actually managed to achieve what it was supposed to achieve well that's an interesting question it is loaded because we normally think that it was intended to help Main Street to help workers and to help small businesses and so forth but in fact there's a lot of evidence that at least of the initial rounds of quantitative easing were primarily intended to help the banks to help the banks recover from the crisis to help the portfolio managers and the large wealth holders and there's a lot of evidence in some papers that I wrote with one Mott casino that in fact it succeeded in doing that but didn't do a lot for Main Street and when in fact if you pointed in the the paper it was terrifically successful in terms of satisfying the needs of its primary constituents that's right we did um in fact a series of three studies in conjunction or as part of an eye net project one was looking at QE one quantitative easy one the first set of quantitative easing where the
Reservebought asset backed securities that were those were the securities that were so implicated in the mortgage crisis and we looked at data for the from the large banks the actual primary dealers that's sold those...
securities to the
Reservewhen they did QE 1 and we looked at another set of fairly large banks that didn't actually serve as primary dealers but had a lot of those securities there finally we had a third group of banks that didn't have many of those securities and we studied the impact of QE on the profitability of these three groups of banks and what we found was that it's significantly both an economic and statistical terms significantly increase the profits of the primary dealers it also helped but not quite so much the the banks that had a lot of these securities because when they bought the securities it raised the prices and so those banks that were holding the even if they weren't directly trading with the Fed they benefited too and when you say they raised to see the the prices that implies that they weren't perhaps paying market values that they were awful to be paying another they did price from what they were actually intrinsically worth that's right in fact that was the intention was to get these these toxic assets these dead assets off of the books of these bags and to pay higher dollar for them in order to try to keep the bags from going back and that in that sense quantitative easing is the true child of Henry Paulson's first attempt these so-called emilich because he actually had the misfortune being honest enough to say that the objective is to take these toxic assets off the balance sheets of the of the banks at its high...
price as possible and of course he acknowledged that's the way you can recapitalize the banks and restore their profitability and prevent an impairment of the credit system so that's in in the limited economic logic he was right but of course politically it was a non-starter because you were just implicitly giving a massive subsidy to to Wall Street at the expense of all of Main Street right so this was one way that they could try to accomplish as much of that as they can get away with under the strictures of open market this quantitative easing this type of open market operations now Ben Bernanke has often said that he's used QE as an excuse in the sense he says it's it was an offset for the amount of political dysfunction that was in Congress that you know we didn't get a sufficient fiscal response therefore the
Reservewas left with no choice but to take increasingly radical measures of which QE was perhaps the most extreme manifestation and his argument was that this had to be done in order to help Main Street along well it's certainly the case that fiscal policy had been hijacked by the Austrians including unfortunately a lot of the Democratic Party - it wasn't so yes Bernanke thought well we have to expand QE because were the only people who are doing anything to try to increase the economic growth in the economy and so we we did another study to look at not just the first round of QE but it all three round qe and we looked not only...
at the impact on the banks of those three rounds but what we found what we looked at was the impact on all industries on all firms in the economy and evolved three different what did you find there will be well on those what we found was that in here we looked at there was an intervention study we looked at the unexpected increase in stock prices when these rounds of QE were announced or implemented and what we found was that with QE 1 it wasn't just the banks in fact that were expected to benefit other industries like housing was expected to benefit and cars automobiles and so forth were expected to benefit as well as the banks and in QE 2 which Bernanke was really pushing as a way of trying to expand the program were they also and what difference would what in what way was Kiwi two different from q1 just qe2 Chui one focused on asset backed securities right qe2 focused on long-term Treasury bills to try to the theory was that it was the theory was that it was supposedly like a modern-day Operation Twist you you reduce price that the long and the theory being that this is what the rate that mortgages are keyed off so you helped the housing market you helped stress borrowers and in that regard helped Main Street that's the theory that's the theory and your practice in practice your research said something very very different right well in practices it's this is what we found that investors initially thought that it would help a broad range of industries in qe2...
by qe3 doing ones that were expected to be helped were the very large banks and a few random components again qe3 QE 3 was just an extension in a definite extension of QE to essentially and so by that time what happened was that what we call QE fatigue set in that is it was becoming clear the queue was not really helping much of the economy that the only sector that it was really helping were the big banks and so there were was not a lot of support among other industries for the continuation of QE 3 and there's a lot of opposition coming from elsewhere and the only ones sitting out there with it were the big banks and so the
Reservethought well we might as well not continue this we can keep interest rates as low as we want for as long as we want we'll just close down QE because we're paying too much political opposition and nobody seems to be benefited and a certain point you couldn't even make the case that actually by keeping these rates lower and encouraging banks to swap their interests in generating bonds with
reserves function they were actually depriving themselves of interest income huh that's right so at a certain point there was this kind of tension between getting short term interest income which a lot of the banks were losing out on a beginning to feel very stressed about and the large banks were still able to use the short term interest rates to make all kinds of complex trades so they were still doing well by the end this was beyond...
the the time of path of our study but by the end a lot of the banks were pushing Yellen and the Fed to raise interest rates and ultimately we as we saw a couple weeks ago she caved in and did that and do you think there's any connection between that policy and they move to increase interest on
reserves was that a way or example helping to for the banks to generate often some of the awesome offset income loss by paying them interest on their
reserveholdings yes I think so and you know the Fed and Janet Yellen will say well this is just the way we have to implement monetary policy we have to use paying interest rate on
reserves is another way of trying to get interest rates up and manage the policy it's a zero interest bound but there's no doubt in my mind that it's also a way of paying off the bags and what we found and what many studies have found is that the impact on Main Street of all of these policies was minimal in fact we have this paradox where in for decades those of us writing about monetary policy found that increased increases in interest rates hurt Main Street had hurt debtors it hurt workers and helped the banks and so when the
Reservewas raising interest rates that's what helped the banks and hurt every else but now we have this paradox women the photo servers lowing interest rates and doing QE that was helping the bags and what was the impact on everybody else well it it didn't really really worsen income distribution and this...
is the third study that we did we found that when the
Reservewas keeping interest rates at zero and engaging in QE that what it did was buy a lot of assets owned mostly by the wealthy raised the values of those assets of course it because the the the top 5% of the largest holders of these assets they did better than the vast majority of the other 95% and thereby exacerbated the
inequalitythat was prevailing but there are other channels that could have helped the lower 90% but the employment channel by generating more employment the problem there was that wages actually fell during real wages actually remained stuck or fell during this period and it didn't generate that much employment or that much full-time employment and that hasn't but you can all you that's a failure of fiscal policies maybe monetary policy shouldn't be expected to do that that's right and so you just quickly stick to things it didn't raise inflation because inflation is stuck very low because of all the fiscal slack in this economy and the rest of the world and it really didn't help mortgages are more than just refinance their loans because the banks still won't refinance mortgages that are underwater so the lesson that we drew from all three studies is the way the monetary policy is conducted in this environment with the financial system broke with the labor market broke and workers and others having so little power to get wage increases so in that context the...
way financial monetary policy works is to exacerbate the
inequalityand what the
Reservehas to do is to start figuring out more direct ways to get credit to to households and communities and small business by passing the standard channels and fiscal policy as you said really has to start critical policy is the key role though you would think now that it was an election year coming up and a congress dominated by the Republicans the fiscal Channel is likely to remain underutilized for which really it's a concern because as you say monetary policy is ease or stimulus has run its course and there doesn't seem to be anything coming from the other side so you wonder what's going to be the next thing to keep the you kept the economy going again I wonder - well there is an argument though that which says that monetary the effects of monetary policy in any case are overrated because it's it's tantamount to using a cleaver when you're doing surgery as opposed to using a scalpel in the sense that you pointed out in certain points in history raising rates has helped certain people and in the previous cycle of quantitative easing lowering rates helped another class of people and again that's not surprising because you know for every borrower there's a there's a saver or a pension holder who loses out with the corresponding loss of income is rates come down whereas if you have a properly targeted fiscal policy you're more likely to focus it...
on the people on Main Street who really need the help absolutely and in fact since the crisis hit many of us have believed that the key role of monetary policy in this kind of situation depression-like situation is to keep interest rates very low for very long as a way of helping fiscal policy play the major role without generating any possibility of the fiscal deficit getting out of control which in these situations is fairly fairly remote in any case but it's a way of helping to finance the fiscal deficit and interesting the problem is of course as we just saw the the Hawks on on the fiscal deficit preventing that from happening and and interestingly enough Bernanke himself has actually often conceded that point because he has talked about the loss of income in some of his papers as impairing the fiscal Channel so he doesn't implicitly concede that a zero interest rate policy is actually not as helpful to Main Street as he is as he publicly like to sell it may taste but the thing is if fiscal as you said under the current and likely political configuration fiscal policy isn't going to do much then eyes have to go back to the Fed and just as Jeremy Corbyn and his group in England are saying well let's have a QE for the people there are many in this country also arguing for more targeted and we're not to call it monetary policy because that's not really what it is credit policy for Communities for small businesses and so forth the
can't can within its legal powers figure out ways to channel credit more directly for infrastructure for small businesses for communities and that's I think what will have to happen next is there legal basis for them to do that nothing that seems to stop them for a lot of other the other things they did over the last few years but can they actually do the type of policy thing you've been advocating yes I mean there are restrictions for example they could they could buy municipal bonds they can only buy six month no more than six month municipal bonds but they can roll those over they can buy any kind of government papers so for example a some kind of structure to create government paper borrowing for infrastructure development in a city educational to building schools infrastructure development the authorities could buy that paper it has to be state and national paper though as opposed to state paper and even state and local paper it can buy under certain restrictions but if there were
federalpaper though the restrictions would be fewer and this doesn't even rely on the emergency powers this is within the legal framework of the
ReserveI've never heard anybody from the Fed
Reserveadvocate that have you well there's a group well in the 1930s in fact there were members of the
Reserveand Tom Ferguson and I looked at this my colleague Bob Paul and looked at this that went out to the regional banks they were desperate to try to get the...
lenders and the borrowers together to try to kind of make the market between the borrowers we didn't want to borrow and the lenders who didn't want to lend and they were talking about these kinds of activities to create some kind of paper that the
Reservecould buy and then that was fiercely rimmel if I'm not mistaken they think the head of the
Reserveat that time was were making that those arguments and then it also happened at the regional level but there's a group called fed up this going around actually having meetings with regional
ReserveBank's and trying to promote this kind of and so what what do you think is a next step if the the Fed seems to me to be in a very count of position politically because as you say they they have done things which have not worked as advertised and so that I think they may be more reluctant and they're certainly going to be under enormous political pressure not to want to take the kinds of radical or measure that you've you're suggesting here the
Reserveif they're gonna have the political power to do what they want to do has to step out of its comfort zone in terms of what kinds of allies and constituencies it reaches out to historically the way the
Reservehas maintained its power and accumulated power is by using developing this constituency of the commercial banks and particularly large commercial banks now the commercial banks are angry to some extent that the Fed...
is not at them its monetary policy so much which is I just suggest that they're happy with their angry at the regulatory policies where the Fed is taking some steps to rein in some of the excesses of the private banking system and and so I think the big banks that typically would have been defending the Fed against the Congress and so forth much more vociferous Lee than they have been are stepping back a little bit and saying see if we can't be a little careful here when they come after we we might not be there to protect you so if the