Here’s a view on QE2 that is simple, shrewd, creative, and common-sense oriented: I think the United States should cut our losses and accept a lower standard of living for the next 10 years. If not, the Fed will reflate assets and wage 15 rounds of QE until our dollar collapses, complicating things for itself and the rest of the world by stimulating a currency war.
Why QE2 is Futile
I don’t believe QE2 will improve things one iota. If liquidity were the problem, QE1 would have worked. The issues were solvency, and the failure of the US Consumer to live within their true means. We haven’t even pulled the trigger on QE2 yet, and already economists are talking about QE3 and QE4. When there’s a hole in the boat, bailing faster is apparently the strategy that our government has taken. The problems are structural and require a long term overhaul of consumer spending habits; however no politician wants to be a “One Termer” which is why actions taken will be quick fixes like the 15 rounds of QE that we are going to suffer through.
It is clear that domestic demand is dead, so why not outsource our problem to the Emerging Markets? Because it will backfire. It’s optimistic to believe that a weaker USD will spur demand by stimulating exports but the sword is double-edged. With interest rates that should be negative according to the Taylor Rule, we risk looking more like Japan and/or Weimar Germany everyday. Stagflation is not out of the question.
Moreover, US QE2 could be the final straw that ignites conflict amongst the already tense and non-cooperative world powers. The recent IMF meeting did not foster resolve. All that US QE2 is going to do is further motivate countries like Japan and Brazil to intervene and devalue their own currencies defensively. It could also spur asset bubbles in Emerging Markets like China. Europe has clearly dug its heels and stayed tight, resorting to VAT increases instead. However, a strong Euro will ultimately be counterproductive for the recovery. We may see reactive tariffs or trade quotas against inexpensive imports.
The best way to create balanced and sustainable growth of world aggregate demand is through concerted movements, but that unfortunately does not seem to be the tone. The bottom line is that unilateral movements reflect global tensions and a lack of cooperation amongst major world powers. This boosts the likelihood of another high tail risk event.
Better to Let Go
Instead of monetary policy, how about some fiscal? Taxing the rich more won’t work because they will work less or find tax shelters. Cutting spending won’t work because the Baby Boomers are starting to retire, and they get their Medicare and Social Security. The least painful measure would be to broaden the tax base. I’m not against Volcker’s VAT tax idea. While we are at it, let’s see about higher taxes on luxury goods, tobacco, alcohol, and energy. These measures are weak at best and will only dent the $14 trillion or so that we are in the hole.
Here’s a cynical and imaginative idea: maybe there is no solution. The structural problems are too deep, and every answer creates more problems. Maybe the US should just cope with the pain that it deserves for binge overleveraging itself. Maybe the frugal nations of the world should dominate, because they have the discipline to save and invest their money wisely. Perhaps it is time that the US should step aside and accept that we just can’t compete anymore. We almost nationalized the banks a few years ago. Maybe Socialism isn’t a bad option.
This is an old-fashioned, shrewd philosophy. The US should own up to our debt addiction, accept that we are down for the count, and adopt lower standards of living until the country learns to save and invest wisely its money instead of operating like a casino or a shopping spree where everyone owns 4 cars, 2 houses, and vacations like it’s the last time the sun is going to shine.
I see dismal hope of a V, U, W, or L-shaped recovery; it is looking more like the number zero.
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