There’s something about quantitative easing that bothers just about everyone – including, believe it or not, Fed chief Ben Bernanke.
But in contrast to his many critics, Bernanke’s problem lies not with the policy itself, in which the Federal Reserve has pledged to buy $600 billion worth of Treasury bonds over eight months in its latest bid to bring down interest rates and stimulate the economy.
No, Bernanke’s beef is that what the Fed is doing isn’t properly called quantitative easing, as he reminded everyone in his speech Friday.
Incidentally, in my view, the use of the term “quantitative easing” to refer to the Federal Reserve’s policies is inappropriate. Quantitative easing typically refers to policies that seek to have effects by changing the quantity of bank reserves, a channel which seems relatively weak, at least in the U.S. context. In contrast, securities purchases work by affecting the yields on the acquired securities and, via substitution effects in investors’ portfolios, on a wider range of assets.
Bernanke’s sensitivity is understandable: The term came into use and accordingly into disrepute a decade or so ago when the Bank of Japan belatedly and unsuccessfully tried to rouse a floundering economy by giving commercial banks more money. The bankers obliged their policymaking peers by not lending any of it, leaving the economy thrashing around and a debilitating deflationary trend intact.
Aware that the policy response in Japan didn’t exactly play out to anyone’s satisfaction, Bernanke made a point in late 2008 of giving the Fed’s first round of massive bond purchases an exiting new name: credit easing.
He explained why in a speech in London in January 2009.
The Federal Reserve’s approach to supporting credit markets is conceptually distinct from quantitative easing (QE), the policy approach used by the Bank of Japan from 2001 to 2006. Our approach–which could be described as “credit easing”–resembles quantitative easing in one respect: It involves an expansion of the central bank’s balance sheet.
However, in a pure QE regime, the focus of policy is the quantity of bank reserves, which are liabilities of the central bank; the composition of loans and securities on the asset side of the central bank’s balance sheet is incidental. Indeed, although the Bank of Japan’s policy approach during the QE period was quite multifaceted, the overall stance of its policy was gauged primarily in terms of its target for bank reserves.
In contrast, the Federal Reserve’s credit easing approach focuses on the mix of loans and securities that it holds and on how this composition of assets affects credit conditions for households and businesses. This difference does not reflect any doctrinal disagreement with the Japanese approach, but rather the differences in financial and economic conditions between the two episodes.
That point, eloquently made though it was, was almost universally ignored, and everyone went on their merry way calling the Fed’s $2 trillion bond purchase plan quantitative easing, as even Bernanke’s allies admit.
“Chairman Ben Bernanke tried to call the Fed’s new policies ‘credit easing,’ probably to differentiate them from actions taken by the Bank of Japan (BOJ) earlier in the decade, but the label did not stick,” former Fed vice chairman Alan Blinder wrote this month in a review of the policy for the St. Louis Fed.
That plan wound down in March, so by the time Bernanke started talking in August about the need to further ease credit conditions in the United States everyone was already calling it QE2 – even though, by Bernanke’s lights, there never was a QE1.