Nobody will defend the idea that quantitative easing can work without concurrent fiscal stimulus.
In an economy that’s deleveraging, pushing rates lower won’t do anything.
So what’s the Fed to do in an environment where, thanks to the political situation, fiscal stimulus is impossible?
Basically, quasi-fiscal stimulus.
Brad Delong describes this:
…a quantitative easing program that is going to have bite should involve Federal Reserve purchases of long-term risky private assets rather than merely long-term U.S. Treasuries. Hiring PIMCO as an agent to manage a long bond index portfolio naturally comes to mind–if one could avoid its front-running.
And, of course, the most effective quantitative easing program of all would involve the Federal Reserve issuing reserve deposits and using that purchasing power to buy the assets that are the furthest away in their risk characteristics from short-term government bonds: bridges, dams, the human capital of American citizens, police protection, research and development.
This is just one level more controversial than the idea that was discussed last week, which was that the Fed could buy state debt. But the problem with both of these ideas is: there’s no way the Fed will get away with them without inviting massive controversy and possibly the end of Fed independence.
Bear in mind that the relatively un-controversial idea of buying normal government securities (which will accomplish nothing) has some people wondering whether a new civil war will start.
So if a truly radical alternative asset buying program is what it will take for QE to work, we’re screwed.