QE II is Arriving Right on Schedule

The Great Depression started in August 1929. The Fed first began increasing the monetary base in late 1930, in response to the first bank run (which was rather small.)  The second QE was announced in February 1932 (30 months into the Depression), and was not a reaction to financial distress but rather was an attempt to boost aggregate demand.

This time around things are different.  The Great Recession formally began in December 2007, although I put July 2008 as a mini-peak, before the sharp drop in AD.  The first QE was in response to bank distress, and occurred in late 2008 and early 2009.  Now we will have a second QE announced in early November, either 28 or 35 months into the recession, depending on when you start it.  In other words, it’s right on schedule.

I know what you are thinking: “Don’t be so sarcastic, in other respects we are doing much better this time.  For instance, the Fed has cut rates close to zero.”  The problem is, they also cut rates close to zero in the early 1930s.

“But at least we aren’t raising income tax rates like Hoover did in 1932.”  Well Obama’s trying to.

“But at least we aren’t following Hoover’s high wage policy.”  Didn’t we raise minimum wages by over 40% in the last few years?

“But at least we are not following Hoover’s protectionist policies which started a trade war.”  That’s true, but we have a Nobel Prize-winner trying to push us into a trade war.

“But at least we understand the real problem this time.  In the Depression you actually had lots of conservatives warning about high inflation, even as low prices were the real problem.”   No comment.

“But at least we don’t have people claiming the recession was punishment for speculative excesses abetted by easy money.  Surely Friedman and Schwartz ended that myth about the 1920s once and for all.”  Actually the myth has been revived, by Anna Schwartz.

“But at least we don’t have people claiming that a sharp cut in interest rates and a big increase in the monetary base means money is “easy.”  Surely Friedman and Schwartz’s highly influential work on the Depression dispelled that myth.”  No comment.

“But at least we don’t have the bizarre scenario of the 1930s, where both liberals and conservatives made bogus “pushing on a string” arguments, while simultaneously warning of the risk of high inflation.”  No comment.

“But at least we no longer have people claiming the recession was caused by income inequality–we now understand the root cause is insufficient AD.”  No comment.

“But at least we no longer have people claiming the unemployment is mostly structural.”   No comment.

“But at least we don’t have people arguing that monetary policy should be used to pop speculative bubbles—the disastrous effects of the Fed’s attempt to pop the 1929 stock bubble drove a stake into the heart of that misguided idea.”  No comment.

Want more parallels?  The European debt/exchange rate crisis occurred 5 to 8 months before QE II was announced as a debt crisis hit Germany in June 1931 and Britain left the gold standard in September 1931.  What happened in Europe during the spring of this year?

In fairness to my critics, I should point out that QE II was greeted ecstatically by the stock market.  (The largest 2-day rally in history.)  Yet the policy failed.  In my favor, the reason for it failing (a large gold outflow mostly neutralized the bond purchases) is not operative this time.  But there is certainly a possibility that it will fail again, and that the Fed will need to use more powerful tools like negative rates on excess reserves and level targeting.

In 2002, Ben Bernanke assured us that we have learned the lessons of Friedman and Schwartz:

Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.

In fairness, they did move aggressively enough to prevent what otherwise would have been a depression in 2002-03.

But have we really learned our lessons?  I’m not so sure.  What do you think?

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About Scott Sumner 492 Articles

Affiliation: Bentley University

Scott Sumner has taught economics at Bentley University for the past 27 years.

He earned a BA in economics at Wisconsin and a PhD at University of Chicago.

Professor Sumner's current research topics include monetary policy targets and the Great Depression. His areas of interest are macroeconomics, monetary theory and policy, and history of economic thought.

Professor Sumner has published articles in the Journal of Political Economy, the Journal of Money, Credit and Banking, and the Bulletin of Economic Research.

Visit: TheMoneyIllusion

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