Despite poor recovery, US central bank has no plan to replace QE2

NEW YORK / BEIJING - The United States' central bank, the Federal Reserve, will allow its bond-buying program to lapse as scheduled at the end of the month, without a new plan to boost an economy that is recovering more slowly than many expected.

The Federal Reserve will end its $600 billion Treasury bond-purchase program on June 30 on schedule, the central bank announced on Wednesday after a unanimous vote, which will mean the end of a major stimulus measure for the US. The Fed, however, will allow short-term interest rates to remain at zero to aid the flagging economy.

When announcing its cessation of short-term rates, the Federal Open Market Committee made no mention of new measures to boost economic growth or the number of jobs.

In a statement, the Fed declared that the economic recovery is "continuing at a moderate pace, although somewhat more slowly than the committee had expected".

Although the end of the bond-buying program was not a surprise, some experts said the results have been limited. Derek Scissors at The Heritage Foundation said the QE2 stimulus measure had "no genuine effect".

"The objective of the QE2 policy was to reduce long-term interest rates to encourage corporations to invest more. But it has not been a successful policy," said Pieter Bottelier, senior adjunct professor of Chinese Studies at Johns Hopkins University.

Fed officials revised the projected growth for this year's gross domestic product to 2.7 to 2.9 percent from an April forecast of 3.1 to 3.3 percent. GDP outlook for 2012 was also lowered to 3.7 percent, at the high end of the range from a previous forecast of 4.2 percent. The unemployment rate was revised from 8.5 to 9 percent for the year.

Fed officials said that they believe US economic growth will pick up later this year even without any new stimulus as long as short-term interest rates are kept at 0 to 0.25 percent.

Fed Chairman Ben Bernanke admitted at a news conference there was "uncertainty" about how much of the slowdown was temporary, although he expects inflation to subside as food and gasoline prices moderate.

Many have criticized the Fed's programs of long-term asset purchases called QE1 and QE2. Minnesota Congresswoman Michele Bachmann, who recently announced her bid for the US presidency, has complained about Fed policies weakening the American dollar. But Bernanke said QE2 had saved the US economy from deflation and was completely justified at the time.

One of the skeptics of the QE2 program is Mike Englund, chief economist at Action Economics. He said "a string of bad things started happening" after the Fed adopted the QE2 measure.

"QE2 aggravated the decline in the dollar and boosted commodity prices and this had a contractionary impact on the economy. They have tried to downplay this," Englund recently told The Wall Street Journal.

Chinese economists, on the other hand, believe that the QE2 measure had a detrimental effect on China's economy.

"QE2 did not boost the economy or revive the job market. The reality is that the depreciation of the US dollar will increase the cost of imports from China and push hot money into the Chinese capital market," said Zhang Shiqing, an economics professor at Nankai University in Tianjin.

The world's largest economy will continue to employ a loose monetary policy to encourage and boost consumption, said Tan Jijun at the Shanghai University of Finance and Economics. He believes the Fed must print more greenbacks to support domestic consumption.

"China is still facing the danger of imported inflation and the country needs to be prepared for some undesirable effects such as inflationary pressures and increases in commodity prices. The Chinese government needs to monitor the capital flows from the US in the next few months as well as its currency exchange rate," Tan said.

Scissors, however, believes QE2 had no effect on China's economy.

"The countries that were affected by QE2 have small economies. China's economy is not only the world's second largest, its money supply is the world's largest. In comparison, QE2 is trivial in size," he said.

Bottelier agreed and said the QE2 did not have a great effect on either the US or Chinese economies.

"I believe the effects of QE2 on the Chinese economy have been very small indeed. The inflationary pressures in China are mainly caused by the very rapid credit expansion in China in 2009 and 2010. The prolonged drought around the country also led to an increase in food prices and the rise in international commodity and food prices is the third factor," he said.

Bob Doll, an equity strategist at BlackRock, is one of those who believe that the QE2 produced some good.

China Daily

(China Daily 06/24/2011 page14)