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Guest Commentary: 5 Reasons for QE3 and 3 Against – Opinion

Guest Commentary: 5 Reasons for QE3 and 3 Against – Opinion

2011-08-24 13:50:00
Lior Cohen, Energy Analyst for Trading NRG,
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5 Reasons for QE3 and 3 Against – Opinion

The upcoming speech of the Federal Reserve chairman Ben Bernanke this coming Friday, August 26thbrings many to speculate whether he will say, hint, smoke signal his intentions to issue a new stimulus plan, i.e. QE3. There are several factors that could tilt the scales towards issuing another QE plan and other that could put this QE3 talks to bed.

In particular, there are at least five reasons why Bernanke may consider eventually running this new QE3 in the near future (even if he may not say or hint something about it in the upcoming meeting):

  1. The high rate of unemployment: the current unemployment rate is still high at 9.1%; the rate has declined from the near 10% mark it used to be back in 2010, but it's still higher than the Fed wants it to be. This QE3 might put a dent in this figure; if the upcoming labor report will be negative or won't show much growth in number of non-farm employees, this might further tilt the scales towards launching QE3;
  2. Low inflation rate: despite the recent hike in the July US inflation, let's face it, during the two previous QE plans the inflation didn't rise rapidly, so the concerns of these QE to cause inflationary pressures aren't sustainable (up to now at least);
  3. The U.S. debt ceiling raise: following the House of Representative's decision to raise the U.S. debt ceiling by $2.1 trillion earlier this month, the deal between Obama and Republicans included budget cuts, which may eventually further slowdown the economic progress (if you are a Keynesian enthusiast); this budget cuts will try to slowdown the growth in deficit, which will reach nearly $1.2 trillion in 2011 fiscal year. But in any case, by launching a stimulus plan to purchase treasury bills, it could help finance some of the growing debt of US government;
  4. U.S. housing market: the recent reports all show that the current real estate market is slightly better than last year, but isn't doing well or growing. In order to jumpstart the economy it needs to build and sell housing. This stimulus plan might push more funds towards housing, even though many commercial banks are still reluctant to provide credit for obvious reasons;
  5. The current stock market and Treasury bills: following the downgrade of US credit rating from AAA to AA+ by S&P, the US stock markets sharply declined; on the other hand, the US Treasury yields sharply declined as well due to higher demand for US Treasury; e.g. the 10 year T-bills yield fell by 0.72 percent point during August – the sharpest monthly fall in 2011. The QE3 program could bring back some stability to the US stock market and the Treasury bills market.

On the other hand there are at least three reasons to avoid another QE plan:

  1. The previous QE programs didn't work: they didn’t work in the sense that the people and businesses who needed these funds didn't receive them; small and medium size businesses find it hard to receive credit, and they have fewer option in raising debt as oppose to large companies that have many more options in raising debt including stock markets, bonds, foreign banks etc. This is reflected in a high unemployment rate and slowdown in real estate market;
  2. Low interest rates: The Fed promised it will keep rates low up to mid 2013; this means it doesn’t put much weight on inflation pressures and projects an exit from this strategy will take a long time. If the inflation pressures will rise due to the QE3 program, the Fed will have limited moving space in curbing the inflation;
  3. Weaker US dollar: even though the USD held its grounds against the Euro, it did fall against the "safe currencies" such as CAD and AUD. This QE3 might further weaken the US dollar, which could be good (export) and bad (imports), depends who you ask.

I think that eventually Bernanke will consider another QE program that will be at even a larger scale than the previous stimulus plans, which were only $600 billion each – nearly 4% of the entire US economy. In order to make the QE3 work, it will need to reach the people who need credit including the small and medium sized businesses. Obviously it much easier said than done, but in order for this plan to work, this is what Bernanke will need to consider in helping the US economy exiting its slowdown.

For further reading:

Weekly outlook for August 22-26

Lior Cohen, M.A. commodities analyst and blogger at Trading NRG.

By: Lior Cohen, Energy Analyst for Trading NRG

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