We are on about QE10 but who knows what that is? And who is Counting?

Alexander C. Cartwright 

            There are currently plenty of ‘crises’ competing for government attention: we are facing the sequestration crisis, the ongoing debt/spending crisis, along with worries about Iran, North Korea, North Africa, and a domestic policy debate on gun control.  Government is failing the citizens on so many fronts that the Left had to celebrate the most recent unemployment rate and job creation numbers- even though this is the first time since taking office that unemployment has gone down on President Obama’s watch and the number of people who gave up looking for work was higher than the number of new jobs created.

            There is little to celebrate about the results of government action, and sadly, all the more reason to be concerned about the future. A short lesson in public choice economics can help us understand that strategies like calling for more or better leadership are nearly meaningless- what we need to do is look at the incentives that government officials face and consider the rules and institutions that give license to the behavior we see.

           

            Our President is probably so unwilling to cut spending and seems to unconcerned about the large level of debt we have, not only because he believes that government spending is an economically feasible way to stimulate an economy, but also because the federal reserve system’s own policies (setting interest rates low) make taking on debt very cheap.

            Of course, the President might have an incentive to consider policies addressing unsustainable spending level if there was a foreseeable end to the FED’s low interest rate policy. However, after quantitative easing (where the FED buys securities on the open market- effectively injecting money, created digitally, into the economy) rounds one, two and three, the FED announced that this once considered extraordinary measure would become regular policy.

            The FED announced that they would engage in quantitative easing every month until they become satisfied with the economy’s recovery. Monthly, quantitative easing has been taking place at the tune of $85 billion per month ever since September 2012. That puts us at about QE10 this month. Considering that new debt is ‘cheap’ and there is no clear end to the FED’s quantitative easing policy, the left doesn’t face much of an incentive to seriously consider a cut in spending. Only a little over 6% of the federal budget goes to paying interest on our debt and, despite taking on more debt, that number has declined in recent years due to low interest rates.  

            Quantitative Easing was a bad policy when it started, and it continues to be a bad policy, yet no one seems to be talking about the fact that we are on round ten. Instead of debating which policies should be cut first, when, and by how much, lets first make politicians are facing an incentive to cut them. One of the most obvious things we can do is ask why charging Washington bureaucrats, armed with lots of statistics, with the task of determining the money supply is a legitimate function of government, and ask why we should expect them to be able to determine the interest any better than they could determine the price of milk.

            Critics of this position will most certainly point to the current all time highs in the financial markets, as evidence of quantitative easing’s success. However, any gains realized by quantitative easing will not be permanent. As cheap money enters the economy, investors see profit opportunities- even though they know these price levels aren’t sustainable long term there is still an opportunity to make money. It’s hard to sit on the sidelines and watch everyone else profit in the short term, even if you are certain that the bubble will burst. The result is a prisoners-dilemma-like situation and the same risky investment behavior that encouraged the 2008 crash. Simply put, quantitative easing cannot last forever, and the costs that come with it- via financial markets and by incentivizing government to take on debt- will be steeper the longer it continues.

            Improving government performance requires improving the rules and institutions that make up government and changing the incentives that government actors face. Even though central banking and macroeconomics are complicated, our Central Bank gives license to much of the government behavior that makes our society less prosperous, and incentivizes much of the government behavior that is undesirable. The FED’s complexity should not insulate it from criticism. Price fixing, central planning, and manipulating the money supply, have never led to a just and prosperous society and the Federal Reserve is no exception.