Just for general information, more on Bernanke's plan. Big risks...
Whole article here:
xe.com
" But the market's real fear, one that the Fed is anxious to downplay, is the policy will eventually work only too well. Conventional monetary theory (MV=PT) says that for a given level of demand for liquidity (velocity, V), increases in the money supply (M) are expressed as an increase in real output (transactions, T), the price level (P), or some combination of both.
Deliberately or not, the Fed's CE strategy is increasing the level of commercial bank reserves, which are the most potent component of the monetary base (M). Many commentators have expressed concern this massive monetary expansion must eventually spark an upsurge in inflation once the economy begins to recover.
Bernanke counters that the current increase in the monetary base (M) is being offset by a corresponding rise in the demand to hold liquid instruments (a decline in V) so there is no current impact on inflation.
Once the crisis passes, demand for liquidity should fall (V will rise). At this point, the extra bank reserves could indeed become inflationary. But Bernanke argues it would be a relatively simple matter to begin withdrawing them.
Much of the liquidity has been created by buying assets with a short maturity (such as commercial paper) which could simply be allowed to run off. Liquidity added by buying longer-dated assets could be absorbed by selling more government debt to the market (overfunding).
LIQUIDITY WITHDRAWAL SCHEDULE
This is much too optimistic. Confidence (V) is notoriously volatile and hard to forecast. Once the economy starts to stabilise and confidence returns, demand for liquidity could fall swiftly and the same quantity of excess reserves could quickly become inflationary. At that point volumes rather than intentions will matter more; targeted CE measures would effectively become generally inflationary QE ones.
The Fed would have to match the return of confidence with an equally nimble withdrawal of excess reserves. But past experience suggests the Fed finds it hard to withdraw liquidity promptly once a crisis has passed. There is no reason to think the central bank would be any more successful this time.
Just the sheer multiplication of monetary policy instruments has made the decision-making process much harder. The Federal Open Market Committee experienced enough difficulty running an effective monetary policy in the late 1990s and early 2000s when all the FOMC members had to worry about was setting a single target interest rate, and arguably got it badly wrong.
The idea the Fed will be able to manage a plethora of CE/QE programmes to withdraw liquidity promptly and in a carefully calibrated manner to avoid an uptick in inflation requires a big leap of faith."
Jim |
