To QE3 or not to QE3, that is the question for the US Federal Reserve

13th September 2012

It's Thursday so it must be central bank day is the rule at the beginning of the month, however today we have a twist as it is the American Federal Open Markets Committee which will give us the results of its deliberations. It does not always make its announcements on a Thursday but today at 5:30pm (UK time) it will announce its decision and at 7:15pm the press conference to discuss this with Chairman Ben Bernanke will begin.

Sometimes not much is expected but today is different as further monetary expansion is likely today from the FOMC and if anything the debate is to what it will be rather than yes or no. Regular readers will be aware that I have expected what will no doubt be labelled QE3 to be along in the end and today might be the day.

What might have changed the mind of the FOMC?

As former President Bill Clinton once famously said " It's the economy stupid!" Or to put it into central bank speak here is the relevant section from the minutes of the last meeting:

"Many members judged that additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery."

So they were promising action unless they felt the alliterative "substantial and sustainable strengthening" was in place. In the first half of 2012 the US economy grew by 0.9% or 1.8% annualised and to fulfil the FOMC ‘s previous expectations for 2012 it would have to grow more quickly of which there is little or no sign. Only last November the FOMC forecast economic growth of 2.5%-2.9% in 2012 which we look likely to fall well short of.

Okay but why now?

The FOMC's main economic measure is the employment and unemployment situation. For example if we look at Chairman Ben Bernanke's speech last month at Jackson Hole he told us this:

"the economic situation is obviously far from satisfactory. The unemployment rate remains more than 2 percentage points above what most FOMC participants see as its longer-run normal value."

We see that satisfactory for the US economy was defined in terms of the unemployment rate. This was added to at the end as we got an explanation of what might/would make the FOMC act again:

"the Federal Reserve will provide additional policy accommodation as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability."

The Employment/Unemployment situation

Last Friday the United States received disappointing data on this front and regular readers may recall my past suggestion that should we get a type of #carboncopy2012 then such numbers were likely. Moving to the data itself the number of non-farm jobs created in August was 96,000 which if we then subtract the 41,000 total revisions to June and July left us with a net 55,000. This is way short of the number required for a "substantial and sustainable strengthening".

At first glance the fall in the unemployment rate from 8.3% to 8.1% provided some relief to the gloom of the payroll numbers. But underlying this there were problems. For example a rising population had a shrinking labo(u)r force! This is a subject which has been discussed regularly over the credit crunch emerged again and this is called the labo(u)r force participation rate which fell again to 63.5%. It matters because some 368,000 individuals were moved out of the labo(u)r force rather than being counted as unemployed! I hope that you get the significance now of a falling particpation rate. If it had held constant at the pre-credit crunch level of 66/67% recorded US unemployment would be much higher right now.

It is not my opinion that every individual who has been counted as leaving the labo(u)r force should be counted as unemployed but it is that some maybe many probably should have been. This gives quite a different impact on the US economy and it fits more with an economy where food stamp usage has hit another all-time high at 46.7 million.

Okay so what action is likely?

Continue reading…


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