QE 2: The Fed revs up the helicopter

Via WSJ:

The Federal Reserve waded back into "quantitative easing" Tuesday, albeit with only one leg this time. But the message is clear that if the economic outlook deteriorates further, the Fed is prepared to do what it takes to reflate. Chairman Ben Bernanke stands ready to live up to his famous nickname of "Helicopter Ben."

This will no doubt be welcomed with cheers at the White House, where the best-laid spending plans have failed to stimulate. Wall Street will also by and large welcome the promise of extra liquidity, since stocks always benefit in the early stages of a reflation. If anything, the Street wanted even more aggressive easing.

How much this will help the economy is the more important question, and on that point we wouldn't expect miracles. The Fed has already set its target fed funds rate at near zero for 20 months, an unprecedented attempt at monetary stimulus. Yesterday the Fed decided it won't slowly shrink its balance sheet, which would have resulted in monetary policy moving from 200 miles per hour to 190 or so.

Instead the Fed will stay at full throttle, reinvesting the proceeds from the expiring mortgage-backed securities on its balance sheet into the direct purchase of long-term Treasury securities. The idea is to keep bond rates low, though with the 10-year note trading at 2.77% it's hard to see how they can get much lower.

Easy money is a powerful policy tool, but it can't do everything. The Fed is supplying more liquidity but the problem is that the private economy lacks the confidence to put it to work. The federal government has imposed so many obstacles to risk-taking, and so many new costs on business and hiring, that business and consumers are hyper-cautious. The Fed can print more money, but it can't make people lend, borrow or invest.

The danger to this fragile recovery isn't that the Fed will repeat its overtightening mistake of 1937-38. With Mr. Bernanke at the helm, there was never even a remote chance of that. The danger is that our politicians keep hoping the Fed will save the day when they should be removing the barriers to growth that Washington keeps piling on.


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