Will Ben Bernanke make us all poorer?
By John Rapley
QE3, the term economists have used to try to make monetary policy look hip, works its way through the global financial system. Short-hand for the third wave of the United States Federal Reserve's programme of quantitative easing, it is essentially a back-door way of flooding the world with US dollars.
The basic idea is simple enough: lots of money will produce lots of spending, and lots of spending will lift the US economy out of its doldrums. But if money now seems free in the US, the policy is anything but. Aside from the question of whether quantitative easing actually works - if it did, why would we be on to a third round, five if you count a couple of 'twists' thrown in for good measure? - there is the risk that it could be offering short-term gain for long-term pain.
How it is meant to work is as follows. By lowering credit costs, QE3 encourages borrowing, both for investment and spending. This inflates asset prices, which in turn stokes inflation. Rising inflation encourages ordinary folk to spend now, so as to avoid future price increases. But while everyone might be better off for a little while, over the long run, it is asset-holders who benefit the most. In other words, the one per cent just got richer.
In any case, it's not clear that much new investment is actually taking place. So far, firms have been storing their added cash, fearful of the next crisis. As for consumers, Americans have been taking advantage of low interest rates to pay down debts. Of course, getting out of debt is a good thing. But it's not clear Americans are about to launch into another buying binge.
And while lower mortgage rates should either encourage new home buying, or free up money from reduced mortgage payments, in fact, banks have not been reducing lending costs as fast as the Federal Reserve (Fed). Instead, as some research done by London's Financial Times revealed in October, banks have been pocketing most of the difference. That pesky one per cent again.
One theory making the rounds is that the real purpose of quantitative easing is financial repression. Harvard's Carmen Reinhart has written that by keeping interest rates below inflation for an extended period, the Fed will enable debtors, especially governments, to pay off their debts. This slowly transfers wealth from savers to debtors. However, the danger then will be that this just inflates the next bubble, baking in another leg of the financial crisis.
All told, the Fed's policy may not breathe much life into the moribund US economy, let alone that of the Western world. In fact, Ben Bernanke may be overly optimistic about what the US's long-term prospects are. Despite expressing recent misgivings, Bernanke still hopes the US can make it back to a long-term trend rate of three per cent growth per year.
Recent studies have cast doubt on that optimism. Some prominent investors, including Jeremy Grantham and Mohamed El Erian, have begun advising their clients that the American economy will be lucky to get up to two per cent growth over the long term - and possibly a lot lower than that. Grantham spreads his pessimism wide. He suggests that the world economy will grow more slowly in the future than it did in the 20th century (which is shaping up to have possibly been an historical anomaly).
That doesn't mean there will be no more economic miracles à la Singapore or Mauritius on the planet. But it does mean that the star performers of the future will have to rely on what they can squeeze out of their own resources and people.
Vision 2030, or any other plan for the long-term growth of Jamaica, won't get an easy ride from the world economy. If the relatively easy phase of development was in the latter decades of the 20th century, and we managed to miss that boat, the challenge ahead will be only greater for it.