St. Louis Fed Says QE2 Would Be Useless, And May Be Damaging

Tyler Durden's picture

We highlighted the following report from St. Louis Fed's Daniel Thornton in today's Frontrunning, but it may bear repeating as it is the first written salvo in the internal Fed trench warfare over QE2. The report is no surprise: as St Louis is the bastion of Daniel Bullard, one of the biggest non-voting hawks at the Fed, a group which is increasingly getting more vocal with such others as Philly's Plosser and Dallas' Fisher, not to mention Atlanta's Hoenig, the paper titled "Would QE2 Have a Significant Effect on Economic Growth, Employment, or Inflation?" is merely an attempt by the sensible undercurrent at the Fed to distance itself from the policies enacted by the supreme madman in charge of it all. While the report says nothing notably new, it does repeat what all QE2 skeptics know all too well: "It is possible – perhaps even likely – that almost all of any increase in
the supply of credit associated with QE2 simply would be held by banks
as excess reserves. If so, the effect of QE2 on
interest rates could be small and limited to an announcement effect –
the effect associated with the FOMC’s announcement – independent of the
effect of the FOMC’s actions on the credit supply." Which begs the question - why is this report coming out now? Is this the red herring to the lack of a QE2 announcement on November 3? With everyone certain monetization is imminent and inevitable, is everyone about to end up on the wrong side of the trade? And if so, just how far will the market crash, now that at least 150 S&P points worth of QE2 are priced in...

Some other logical concerns by Thornton, focusing on output and unemployment:

Even if QE2 did affect interest rates, many believe that the effect on output or employment would be small. For example, Charles Plosser, president of the Philadelphia Fed and a nonvoting member of the FOMC, recently suggested that “[I]t is difficult…to see how additional asset purchases by the Fed, even if they move interest rates on long-term bonds down by 10 or 20 basis points, will have much impact on the near-term outlook for employment.” One reason is that even in normal times, investment spending is not particularly responsive to changes in interest rates: Investment spending depends more on the economic outlook. Consequently, some analysts believe that reducing interest rates modestly from their already historically low levels is unlikely to stimulate aggregate demand: Little effect on aggregate demand implies a corresponding small effect on output and, hence, employment.

On QE2 and inflation expectations:

The effect of QE2 on inflation or inflation expectations is also uncertain. According to modern macroeconomic theory, inflation is determined by (i) economic agents’ inflation expectations and (ii) the gap between actual and potential output. Currently, the estimated gap between actual  and potential output is negative and large. Consequently, in order to affect inflation by the gap mechanism, QE2 would have to significantly increase output relative to potential, but (as noted above) the effect on output is questionable.

On QE2 and hyperinflation expectations:

Some analysts and market participants believe inflation is the consequence of excessive money growth. That is, excessive money growth increases inflation independent of the size of the output gap or inflation expectations. Growth of the M1 and M2 monetary aggregates  accelerated sharply after the Fed began QE in September 2008, but then declined as banks increased their holdings of excess reserves. If banks decide to hold most or all of QE2 as excess reserves, there would be no corresponding increase in the money supply and, consequently, no increase in inflation. Some analysts are already concerned about the potential inflation consequences of the Fed’s previous QE measures. To the extent that QE2 would exacerbate those concerns, it could raise inflation expectations. However, it is questionable whether inflation expectations would rise appreciably without either a corresponding increase in actual inflation or the FOMC signaling a higher inflation objective.

Alas, the FOMC has just signalled a higher inflation objective.

And lastly, QE2 as going straight to the heart of Fed credbility:

Finally, it should be noted that QE2 could have adverse effects. For example, Plosser has expressed concern that if the FOMC undertakes QE2 and the actions are ineffective, it could damage the “Fed’s credibility and possibly erode the effectiveness of our future actions to ensure price stability.” He suggests that QE2 might also raise concerns that “the Fed is seeking to monetize the deficit [which] might make it more difficult to return to normal policy” in the future.

Bottom line: buy lots of still cheap puts ahead of November 2. Something strange is going on here.

Full report:


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Apostate's picture


Have faith, brothers! Ben and his wondrous printing machine will give us unending prosperity. 

Sudden Debt's picture

These guys are SO going to receive a angry email WRITEN IN CAPITAL LETTERS!!

That will teach them!

HelluvaEngineer's picture

Well, duh.  They fail to see the point of QE2, which is to validate that Ben is completely insane.

deadparrot's picture

I thought the point of QE2 was to give BB another 6 months before he had to admit he was wrong. Once you hang that "Mission Accomplished" banner, there is no going back.

techperson's picture

Best I could do on short notice.

Obama Fires Bernanke – YouTube

Part 1 - 

Part 2 –

Duuude's picture



                "holy shit"



                 "you can't do that"



                 "holy shit"





Bellysnort !!!!!!!!!!!!




Walt Whitman's picture

Enjoyed thoroughly! Hilarious! 

Great job!

Eldo's picture

Great stuff.  I sent it to Jim Sinclair.

Hansel's picture

How does the U.S. fund its $1.5 trillion annual budget deficit without more QE?

BurningFuld's picture

Exactly. There is no deciding weather or not to do it. US Gov. needs the cash.

B9K9's picture

You cut all domestic entitlement programs. Mark my words, the last thing that will be cut is the MIC budget. The final stand is our ability to control ME oil. A strong(er) $USD helps acomplish this mission objective.

QE2 has been all about blowing smoke up people's asses. That is, gun the markets to re-invoke animal spirits in order to stimulate good 'ole organic credit growth. But it isn't happening and it ain't gonna happen. It's not Obama that is going to fire Ben, it's Petraeus.

We will never be able to move forward until the fraud & malinvestment is finally cleared away. This is what deflation does - painfully so. The day is rapidly approaching (can 11/2 even come close?) where the last sane Americans are going to finally say, "bring it on bitch".

system failure's picture

Bring it on Bitch, It's on like donkey Kong.

IEVI's picture

The MIC has no intention of ever leaving the ME.

In Obama's Wars Woodward quotes Petraeus as saying regarding Afghanistan, “You have to recognize also that I don’t think you win this war. I think you keep fighting. It’s a little bit like Iraq, actually. . . . Yes, there has been enormous progress in Iraq. But there are still horrific attacks in Iraq, and you have to stay vigilant. You have to stay after it. This is the kind of fight we’re in for the rest of our lives and probably our kids’ lives.”

Most people probably think a military coup can't happen in DC..but maybe one already has. All of Obama's campaign promises about ending the wars in Iraq and Afghanistan and closing Guantanamo have evaporated.

Who's really in control and what is their end goal?


43 Steelie's picture

Maybe he should tell that to his boy Jim Bullard.

Hopefully you all saw this last Friday, Santelli lighting up Bullard on CNBC:

Starts at 9:41...gets riled up starting at 10:38.

Cult_of_Reason's picture

The Fed has already successfully engineered a stagflation -- no need for QE2.

Wholesale prices rise for third straight month on higher food and energy costs.

berated's picture

I'm late to the party with following the Fed. Is this degree and visibility of "conflict" typical of the Fed's internal workings? I just don't recall ever hearing these kinds of increasingly animous discussions taking place. Thoughts?

aheady's picture

My thoughts are more focused on the $6.79 jar of Hellmans mayonnaise I bought at the grocery store last night.

hedgeless_horseman's picture

Get some layers here:

Make your own vinegar by pouring the bottoms of wine bottles in one of these:

Very soon, you no longer have to pay for mayo.

Disintermediation, bitches!!!!!!

aheady's picture

Cool... and thanks for not telling me to switch to Duke's.

spartan117's picture

I think this "disagreement" the Fed is having internally is just a show for us sheep. 

frankTHE COIN's picture

On the East Coast in the 1990s we had a 100 year storm 3 Times. One of them in 1991 went out to sea and became part of the perfect storm. This is getting sickening.


Voodoo Economics's picture

Hey Benny, Inflation in a declining consumptive society is deflationary. See - Real Voodoo economics. Your inflate at all costs won't work.

TradingJoe's picture

See, this why I go short, I stay short, I short some more, I take the pain willingly because  I know this insanity will eventually END! Big PayDay Coming!!!

Hansel's picture

-1, dumb.  The most you can ever make on a short is 100%, and it pays off in dollars.  On the other hand QE could boost stocks 10,000%, crush the dollar, and you get wiped out.  The risk-reward is horrible.

Battleaxe's picture

The fed would like to outlaw shorting, but making it unprofitable is the best they can do. Of course this will all blow up in their faces at some point; maybe after the election when QE2 is smaller than priced in or non-existent? This POMO QE light shit could go on quite a while though. It's apparently more powerful at pumping the market than it seems like it should be.

system failure's picture

It sure the hell cuff the banksters

pauldia's picture

Hmmm...... First the salvo from Edwin Truman of  the Peterson institute recommending "selling the gold is Fort Knox", & now a little negotiating with our largest creditor who soon will own Fort Knox.

RUMOR: China And US Working On Deal To Make QE Smaller, Yuan Appreciation Bigger
The Business Insider ^ | 10-14-2010 | Gregory White

Troy Ounce's picture


YYYeeeesssss: rumors, I love rumors.......

DarkMath's picture

Velvet weekend. It will allow an orderly collapse of the dollar. Panic is so chaotic.

Dr. No's picture

I would be surprised if the FED did QE2 out in the open and it is no surprise the troops are getting restless under Bernanke.  As a privite entity, the FED is to protect the shareholder interests.  QE1.0 and QE1.1 have been fun but it is evident some of the shareholders are getting aggitated.  Further debasement risks everything the puppet masters have built and they are reluctant to let a tenured university professior determine their fate.

Critical Path's picture

QE2 is certainly pointless... just more money handed over to the banks to squat on. 

Let me know when the fed goes from kicking around the idea to actually doing it... that being of negative interest rates or bypassing the banks and lending directly to the private sector.

Charley's picture

"Even if QE2 did affect interest rates, many believe that the effect on output or employment would be small."

The experience of the Great Depression bears this out. Devaluation against gold was the big QE of the period and did nothing until fiscal juice stepped in in the form of World War II. Devaluation did, however, pave the way for the latter event.

"According to modern macroeconomic theory, inflation is determined by (i) economic agents’ inflation expectations and (ii) the gap between actual and potential output."

This is wrong. Inflation requires unproductive consumption of resources -- it is waste pure and simple. See above point: it was the needless waste of a massive military conflict that generated post-depression inflation in the 1930's. And the actual physical waste of human life and productive capacity, resulting from the war, alone made post-depression expansion possible.

"Some analysts and market participants believe inflation is the consequence of excessive money growth"

Inflation is not a monetary phenomenon; it is the real waste of resources. Money makes possible that this waste can take the form of higher prices, but it plays only a passive role in this. The supply of money does not create inflation, inflation creates money supply.

"Finally, it should be noted that QE2 could have adverse effects. For example, Plosser has expressed concern that if the FOMC undertakes QE2 and the actions are ineffective, it could damage the 'Fed’s credibility and possibly erode the effectiveness of our future actions to ensure price stability'"

Let me see: The Federal Reserve helps to plunge the nation and planet into the worst economic crisis in forty years and this does not damage its reputation, but QE2 might? Okay, fine...

I pity the future. This paper is a big waste of time. At best, it might serve as circumstantial evidence that the FED did not intentionally cause the present crisis, but only stumbled blindly and ignorantly into it.

TooBearish's picture

Some analysts and market participants believe inflation is the consequence of excessive money growth....

wasn't there some guy, Milton somebody, Chicago school or something like that.... I reckon dead now....

Itsalie's picture

Pimco reportedly selling US treasuries and almost openly calling for more types of assets to be bought, what else are they buying? that is the key question, because no one belives Ben will only be buying treasuries. With foreclosuregate, his shareholders are surely insisting part of the trillions (to be created) be used to buy some toxic MBS or option ARMS or even some REO houses they are having to swallow back.

spartan117's picture

Yes, QE is really going to stop.,0,5040462.s...

Not.  Everyone is going to get bailed out.  Everyone.

Paper CRUSHer's picture

Well,this mornin' in case ya missed it on CNBC phat slob Haynes and his sidekick Erin Burnett were bitching...err pitching their usual used car salesman money swindling ideas when they came up with something rather special.

A unique pitching trick....

They stated,if Apple was part of the Dow 30 Index t'would be trading above 11900.

Now how DOW you like dem APPLES!


buzzsaw99's picture

St. Louis is insignificant. The maggot owners call the shots then the NY fed delivers their decisions.

carbon based unit's picture

this CBU just had an errant thought re JPMs 'earnings'.  one wonders if they might be playing the same game wrt loan loss reserves as they and the other practitioners of gods work do every quarter with cash balances which magically appear from the repo market just in time to seasonally adjust their 10Q?  just an errant thought.



SheepDog-One's picture

Q/E2 is nothing but the Event Horizon. Besides, QE will never be delivered, it was all just for show and 150 S&P points priced in. 

frankTHE COIN's picture

Just like Goldman Promoting and then shorting subprime. Collect their money on the turnstill in and have them put money into the handcuff release machine to get out.

nedwardkelly's picture

I think this is just more smoke and mirrors.

Right now the market expects QE2. It's priced in and all that BS.

If it is in fact priced in already, when it's announced it wont give nearly the market juice they'd like it to. On the other hand if there's a bit of contention in the fed as to it's benefits, if there's a bunch of fakery about whether or not they'll do it etc, then they can try to make it appear that there is actually some doubt as to what they'll do...

Then when they announce it and remove all doubt, yippee, the markets will celebrate even if it was supposedly already priced in.

john_connor's picture

At least some of the guys have sense, although all the power resides at FRBNY.  Is it not any clearer that both Bernanke and Trichet are attempting to influence the US elections (again) with all of this jawboning?  Too bad the sheeple aren't biting and fiscal conservatives will take over the house and strengthen the minority in the senate.  Bernanke did this in September 2008 when he decreased liquidity when Lehman was on its death bed.  Coincidentally, at the same time in early September, McCain was pulling even in the polls with the community organizer when McCain made a fatal mistake by advocating a "spending freeze" during one of the main debates.  That sealed it.  The Fed then had to crash the markets in order to assure that O made it to office. 

Coincidence? I think not.  Now we have a repeat, except "they" want the Dems to retain power so the debt will keep on flowin.  A gridlock on the Hill would be a disaster for the Washington/Wall Street/London inbred cartel.

Djirk's picture

I agree with Plosser that the FED should state it's goals timelines of QE2 publicly.

1) Easy political solution of the debt problem by inflating away private debt and public liabilities like social security and medicade.

2) Crush US purchasing power and the dollar, so domestic consumers will be more likely to purchase US manufactured goods. Allow foriegn investors to scoop up US assets at bargain prices, while excluding US savers.

3) Maintain price stability during falling consumer demand and declining housing costs by giving banks and speculators more capital to drive up commodity prices.

On track....good work guyz and girlz!


gigeze787's picture

The threat (bluff) of QE2 in the Aug-Nov period does three things:

1) Pumps the market going into election and boosts voters' Q3 401K statements.

2) Pressures Chinese to allow their currency to rise against the USD.

3) Allows underfunded pension funds (esp those of govt entities) to bail out at higher prices and/or to report a less worse underfunding, thereby buying time.

The STL Fed report is part of the dance with the Chinese, and indicates they may have already done a deal on the yuan-USD rate but that it will not be formally announced until after the election, if at all.

The game Bernanke/Summers/Geitner are playing is straight out of Sun Tzu.


Winston Smith 2009's picture

That's funny. With QE2 supposedly already priced into the market and some commodities, if it doesn't happen and the true severity of the implications behind Mortgagegate hit home:

The Second Leg Down of America’s Death Spiral

there is going to be one hell of a CRASH. Hell, just Mortgagegate alone is going to cause a crash.

Bankster T Cubed's picture

this is all bullshit

this report is meant to soothe the souls of the growing number of us out there who think the fed is not acting reasonably, by demonstrating that the fucking asshole scumbag jerks  at the fed do debate this stuff and therefore proceed with caution and deliberation.

and that is total BS, of course.  The fed is a pile of shit.

macholatte's picture


The case can be made that a contrarian position needs to be aired to maintain the charade of contemplative debate.

Also, just because they "authorize" a trillion+ of QE doesn't mean they're going to use it. So this may look more like an illusion of keeping BB on a leash. They have to place themselves into a no-lose political situation. They have to appear to be doing the right thing given the current data. There is no accountability but they need deniability. They have to be able to forgive themselves. This is the same bullshit rationale Greenspan used when he allowed things to get out of control and BB was right there with him.



Chicago bear's picture

Ben will announce it this Saturday in Boston, so I was told.