Printing money — or quantitative easing — has always been seen as the last resort. Now, it seems to be the only option. It has various manifestations, and recent weeks have shown some of its limitations.
The Swiss National Bank and the Bank of Japan tried to reverse the appreciation of their respective currencies by increasing liquidity to banks and striving for still lower short-term interest rates. Japan also intervened directly in the currency market by selling yen. But it remains close to its peak, and the Swiss franc has pushed on to new highs. This type of involvement has not proved effective.
The European Central Bank has shunned Q.E. outright. Being bold has meant buying euro zone government debt in the secondary market, while neutralizing the monetary effect by sucking in bank deposits. This big gun has worked. Yields on 10-year Italian and Spanish government debt have tumbled by over one percentage point.
The question for the central bank is whether it should go further by buying large amounts of euro zone sovereign debt without any offsetting moves that take money out of the system. This might seem an easy solution to the region’s debt crisis. But the risk is that the central bank becomes a holder of debt that requires restructuring — as is probably the case now with Greece.
The central bank then faces real losses that it must pass on to European governments. Again, it could just print more money to fill the hole, monetizing the debt, as economists say. Numerous irresponsible central banks in Latin America and elsewhere have done so in the past. But the usual result has been high inflation. Germany, which remembers Weimar, sees this as the ultimate risk.
The Bank of England has so far taken a conservative Q.E. course — buying £200 billion of British government bonds. Growth there remains weak. The bank may well decide in coming months to start a second round of Q.E. But it’s doubtful how effective more gilt purchases would be. The bank might be tempted to be bolder and buy corporate bonds. The risk is that this is like pushing on a piece of string, as the real problem is a lack of demand in the real economy.
By far the boldest exponent of Q.E. has been the Federal Reserve. Its second round of money printing financed purchases of $600 billion of Treasuries. The question is how much QE2 has achieved and, as markets panic, if QE3 will soon be required. But when the yield on the American 10-year note is already hovering around 2.4 percent, would more Treasury purchases be useful?
Ben S. Bernanke, the Fed chairman, has said that more radical options are available. Cooperation between monetary and fiscal authorities, he wrote in 2002, could permit a “money-financed tax cut” equivalent to a “helicopter drop” of money, to use a phrase from the economist Milton Friedman. Politicians would certainly balk at that — as would most Fed governors, three of whom have rejected the bank’s new commitment to keep rates low till 2013.
Congress sought to tie the government’s hands on conventionally financed spending, and is politically miles away from using printed money to finance looser fiscal policy.
The reality is that bolder Q.E. would bring risks for the dollar and for inflation worldwide. QE2 coincided with a surge in global commodity prices, increasing inflation in emerging economies and, now, in America to 3.6 percent. Gasoline prices are up 36 percent in the last year. Consumer purchasing power has been harmed. If more Q.E. means higher prices, the policy risks obstructing growth.
But if recession returns to the United States, the world economy slows and the markets’ worst fears are realized, then the Fed and other central banks would have no other option. The world isn’t desperate yet, even though America’s recovery is slow. Central banks do have an arsenal. They just should not rush to use it. IAN CAMPBELL
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