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The Federal Reserve Shouldn't End Its Stimulus Program Yet

Getty Images/Alex Wong

At 2pm next Wednesday, the Federal Reserve will likely announce that it is ending its quantitative easing program. That may sound boring, but it’s been the Fed’s most powerful tool over the past few years to help the U.S. economy. Now, the Fed may be stopping it too soon.

When the Great Recession struck, the Fed quickly cut short-term interest rates to zero, its normal method for encouraging businesses to invest and consumers to spend. But the economy needed more help, so the Fed decided to use a new policy called quantitative easing—the purchase of Treasury bonds and mortgage-backed securities—to lower long-term interest rates.

The Fed has engaged in three rounds of QE: one in 2010, one in 2011 and one that has been ongoing since 2012. QE3, as the last one is called, is open-ended. It began with the Fed buying $40 billion of assets each month. Eventually, it would be expanded to $85 billion per month. That lasted until December of last year, when the Fed saw enough economic improvement to begin reducing QE by $10 billion at each meeting. Next Wednesday, most observers expect, the Fed will cease the purchases altogether.

Economists aren’t certain how effective QE has been, but most believe it has helped the economy. That doesn’t mean the Fed policy has been optimal over the past few years. It prematurely stopped QE programs twice, for instance. There are also good arguments for other using other policy levers for boosting growth, such as raising the inflation target or adopting a different monetary policy regime altogether. But many inflation hawks, some of whom hold spots on the Fed board, have pressured the central bank to tighten policy. This has limited the Fed’s ability to loosen policy any further. Given those constraints, Fed chair Janet Yellen—and before her, Ben Bernanke—have used the tools available.

Should QE end next Wednesday? That depends. The economy really has improved over the past year, so it makes sense for the Fed to adopt a more normal policy posture. At the same time, the economy is still far from full employment and wage growth is barely keeping up with inflation. Meanwhile, the outlook for the global economy worsened over the past month, with growth slowing in China, Japan and the Eurozone. Investors are worried that policymakers, particularly the European Central Bank, will not act aggressively if the economy slows down. Economists are also unsure how the Ebola outbreak could affect the economy.

As I reported last week, the U.S. is in good shape to weather any global economic weakness. But there is a risk that problems in Europe and Asia could spill over and hurt growth here. For that reason, I hope the Fed refrains from ending QE until its next meeting. The Fed can’t help the ECB set its policy correctly. But it can show investors that policymakers in the U.S. are aware of global developments—and that it will adjust its monetary policy accordingly. After all, we don’t want to be starting QE4 early next year.

Danny Vinik

News from Tuesday:

MIDTERMS: This election cycle has seen a record number of political ads that feature environmental issues. Of course, record spending from environmental groups themselves helped make this happen. (Coral Davenport and Ashley Parker, New York Times)

FERGUSON: Simmering distrust between police and residents in Ferguson, Missouri, has a new solution: Governor Jay Nixon’s newly announced Ferguson Commission. Rather than focus on the details of Michael Brown’s death, the commission will seek to alleviate the tensions the shooting brought to light. (German Lopez, Vox)

EBOLA: Passengers flying into the United States from the Ebola-suffering countries of Liberia, Sierra Leone and Guinea will be required to land at one of the five security-heightened airports that screens newcomers for potential signs of the disease. (Kristina Peterson, Wall Street Journal)

Articles worth reading:

The making of Ferguson: In a thoroughly reported piece, Richard Rothstein argues that public policy, not private prejudice, is the primary reason St. Louis (and cities like it) became so segregated. (American Prospect

355 months and counting: Earth has experienced a warmer month than average for the last 355 months straight. Temperature records are so commonly broken now that Chris Mooney says we don't even pay attention to them anymore.  (Wonkblog)

Podcast of the Day: Women used to dominate computer science. Now they don't. What happened and does it have anything to do with video games? (Steve Henn, Planet Money)

Obama a Republican? Bruce Bartlett, a former policy adviser for Ronald Reagan, argues in The American Conservative that Obama has governed as a liberal Republican.  (The American Conservative)

Mass shootings, many interpretations: Are mass shootings really on the rise? Dylan Matthews digs into the numbers (Vox)

Stories we’re watching:

Reaction to Ben Bradlee's death. (Not the Fed at 2pm. That's next week.)


The mortgage industry is scheming to recreate the regulatory free-for-all that led to the 2008 meltdown—and David Dayen says the Obama Administration is going along with it. Danny Vinik analyzes the Pew Research Center study on news source habits that’s been making the rounds.

I somehow got in my head that the Fed was meeting Tuesday and Wednesday of this week. It's actually next week. Doh.