Is QEII Working?

It's great that QEII seems to be working, but let's not get overexcited here. According to this FRBSF Economic Letter, the effect on unemployment will be around 1.5% (and it won't happen overnight).

By 2012, the ... program's incremental contribution is ... 700,000 jobs generated ... by the most recent phase of the program. Increased hiring lowers the unemployment rate by 1½ percentage points compared with what it would have been absent the Fed's asset purchases... Based on other simulations, providing an equivalent amount of support to real economic activity through conventional monetary policy would have required cutting the federal funds rate approximately 3 percentage points relative to baseline from early 2009 through 2012, an obvious impossibility because of the zero lower bound.

That gets us down to 8% in 2012 (Update: as Ryan Avent notes, plus any change that would have happened anyway, but see the note below). We can argue about what "working" means, but if it means reducing unemployment to acceptable levels, to repeat a point I've made again and again, this alone is not nearly enough.

There is also more evidence on QEII beyond the FRBSF research. This paper by Heike Schenkelberg and Sebastion Watzka of the University of Munich finds positive effects of QE for Japan. Here's there introduction:

1 Introduction We study the real effects of Quantitative Easing (QE) in a structural VAR (SVAR) when the short-term interest rate is constrained by the Zero-Lower-Bound (ZLB). Using monthly Japanese data since 1995 - a period during which the Bank of Japan's target rate, the overnight call rate, has been very close to zero - and sign restrictions based on liquidity trap theory, we find that an increase in reserves leads to a significant 0.7 percent rise in industrial production on impact.

This rise lasts for about two years. On the other hand, our results indicate that the same shock has no effect on inflation. Thus our results provide mixed evidence on the successfulness of QE in Japan. Whilst real economic activity does seem to pick up after a QE-shock, this does not seem to affect inflation in such a way that Japan could exit its deflationary period through such a policy shock.

However, this conclusion strictly holds only under the usual caveat in SVAR- analysis that the monetary policy shock we consider must be a small one - one that is not allowed to change the policy regime or any other of the structural relations we estimate. Whilst we argue this is precisely the kind of shock that central banks currently inflict on our economies, we should be careful not to conclude that any more aggressive policy changes by central banks to escape the deflationary period of the liquidity trap are doomed to fail. ...

Finally, Bernanke said today that unemployment is still too high, inflation is still too low, QEII appears to be working (though again, what does working mean in terms of solving the big problem we face?), and that QEII will continue. (Wish I had more time to extract some of this, but I need to go find the gate for my flight, so I'll have to leave it to you.)

Update: Ryan Avent argues that a 1.5% change over such a long time period --around two years -- is, in fact, "working." Again, under my definition of what working means, this (less than 30,000 jobs per month) is far from fast enough and clearly indicates that the unemployment problem could use more help (and that help should already be in place) -- my main point. Ben Bernanke says it will be "several years" yet until unemployment returns to normal even with QEII. That is far from getting people working fast enough under any reasonable definition. Call that "working" if you like, but I don't see it that way.

Update: A few more comments from my oh so comfortable seat on the plane (writing this is supposed to take my attention away from the crying baby and the jabbing elbow next to me -- grrr -- both irritated and distracted as I try to write).

I am not saying that QEII did nothing, was worthless, anything like that. I'm just disappointed to see people patting the Fed on the back for a job well done when the Fed's actions were both far too late and far too small (why settle for 1.5% reduction in unemployment if inflation is not a worry? Why wait until after the election to do this when we knew unemployment was a problem long, long before that?). Furthermore, with the unemployment problem expected to persist for years yet, we have to worry that this optimism will translate into deficit reduction and interest rate increases that come far too early and create yet another headwind working against the millions seeking work. My reactions are partly conditioned on that worry. All along I've been arguing that the Fed could not put the unemployment rate on a satisfactory trajectory by itself, and Bernanke's comments about having years yet until unemployment returns to normal reinforces that view. Like the Fed, but even more so, Congress needed to do more than it has done, and do it much sooner. But that didn't happen. Yes, we got a bit more recently, and I am happy about that -- better than nothing -- but it's much too little and much too late relative to the optimal response.

I am very pleased that 700,000 more people will have jobs as a result of the Fed's actions in QEII (and the total QE affects were even larger, the 700,000 is only for QEII). But with millions and millions out of work still, I am not going to settle for this, say great job, pat the Fed and Congress on the back, and move on to other things (and it's important to realize the forecast for a 1.5% reduction is from model based simulations and hence there is quite a bit of uncertainty surrounding the forecast -- yet another reason not to relax just yet). It's time to keep pushing for more, we have years ahead of us before we are back to normal. If that means I'll have a hard time saying good job when perhaps it's warranted, and I will, so be it.

Ah, the cabin is a bit quieter. Yahoo.