Fed Admits Another $4 Trillion In QE Will Be Needed To Offset An "Economic Shock"

Tyler Durden's picture

In a Fed Staff working paper released over the weekend titled "Gauging the Ability of the FOMC to Respond to Future Recessions" and penned by deputy director of the division of research and statistics at the Fed, the author concludes that "simulations of the FRB/US model of a severe recession suggest that large-scale asset purchases and forward guidance about the future path of the federal funds rate should be able to provide enough additional accommodation to fully compensate for a more limited [ability] to cut short-term interest rates in most, but probably not all, circumstances."

So far so good, however, there are some notable problems with the paper's assumptions, as Citi head of G10 FX, Steven Englander, observes.

He writes that the paper’s basic framework is to take the standard US economic model used by the Fed, give it a negative shock big enough to push the unemployment rate up by 5 percentage points (big but not unprecedented over the last 50 years) and deploying the Fed’s policy rate, QE and forward guidance tools to see if they are adequate to get the economy back on track. Negative rates and helicopter money are not used.

The two simulations assume:

  1. the economy is in equilibrium initially with inflation at 2%, r* at 1%, so equilibrium nominal fed funds is 3%
  2. the economy is in equilibrium initially with inflation at 2%, r* at zero (secular stagnation) and equilibrium nominal fed funds at 2%

He compares three policy approaches. The first assumes a linear world where fed funds can go into negative territory but there is no breakdown in the structure of economic relationships. It is probably not a realistic view of policy ineffectiveness at negative rates, but it is mean to be a baseline. The second just takes fed funds down to zero and keeps it there long enough for unemployment to return to baseline.

The third takes fed funds down to zero and augments it with additional USD2trn of QE and forward guidance. A variation on the third policy response function doubles the amount of QE in the second simulation.

In other words, the Fed is already factoring in a scenario in which a shock to the economy leads to additional QE of either $2 trillion, or in a worst case scenario, $4 trillion, effectively doubling the current size of the Fed's balance sheet.

He continues his critique of the Fed's argument as follows:

In the simulations. QE and forward guidance take 10yr yields down 225-300 bps depending on the starting point for fed funds and whether you do $2 trillion or $4 trillion for QE. But that is not going to work very well if by design fed funds and 10yr yields can’t go below zero. And if expected rates are already low then forward guidance does not have much room. Fed official will gave to keep a straight face while saying they we will keep rates at zero … forever.


What makes it work is that QE and committing to low rates for longer gets the long rate down quickly and this compensates for the inability to take short rates down as far as you would want. In the unconstrained model, the maximum drop in short rates is almost 9 percentage points, almost twice as much as in the constrained model, but the QE/forward guidance  lower takes (and keeps) long rates 75bps lower than when the Fed takes rates to zero and stops. When the Fed is starting from 3% fed funds, the combo can almost entirely offset the zero constraint, but only if the full $4 trillion QE is brought to bear. Starting from 2%, QE of $2 trillion is not enough to get long rates down far or fast enough to offset the shock.

All of which brings Englander to the following stunning conclusion:

I would have rewritten the conclusion as: "large-scale asset purchases and forward guidance about the future path of the federal funds rate have almost no ability to offset a shock in current circumstances, but down the road may be able to provide enough additional accommodation to fully compensate for a more limited [ability] to cut short-term interest rates in some, but not all and maybe even not most, circumstances." The italics and colors show my changes.

Just as troubling, Englander admits that the nuanced read of the Fed paper admits it is effectively powerless to withstand a sharp recession: "The key policy issues and what drives the paper’s conclusions and my variant is the starting point. Were we to have a recession today or a year (or even two years) from now, it is very unlikely that the Fed weapons have anywhere near the potency that the paper describes. The FOMC had an end-2018 median fed funds rate of 2.4% at the June meeting and my guess is that it is lower now. Markets don’t price in even 100bps in fed funds till the end of 2019 (taking Eurodollar rates and subtracting 40bs or so.) That said, a 5% shock to the unemployment rate is pretty extreme, if the Fed is not stepping on the brakes hard or world not falling apart for other reasons."

How much room does the Fed have? Very little:

In the simulation is looks as if it takes about 160-180bps of fed funds reductions (peak response) to offset an 1% UR shock, so right now they could offset maybe an 0.20% shock to the UR with the rates room that they have.

But most troubling of all, is just how critical starting conditions are for further easing; considering monetary conditions right now are unprecedented, it means the Fed has its work cut out for it:

The problem the paper outs in relief is that the effectiveness of rate cuts/QE/rate guidance goes up with the starting point of rates – so the combined policy tools are much more effective if the fed funds rate is 3% than if it is 2% and certainly a lot more than if it is 40bps. There is a good reason the paper does not examine the options for fighting recessions under current conditions. The drop in fed funds also takes 10 year yields down, and roughly 30-40bps in 10s for every 100 bps in fed funds,  so if you are starting with fed funds at 40bps and 10yr yields at 160bps, rates policy/QE/forward guidance are not going to do much. Short rates, long rates and rate expectations have nowhere to go, unless you bring negative rates into the discussion, which does not occur.

And, as noted above, not less than $4 trillion in QE would be enough to "get long rates down far or fast enough to offset the shock."

What are the implications for the Fed, and thus to the market, as a result of the paper? It depends on whetyher one is a hawk or a dove:

To the doves fast growth and higher inflation inoculates the Fed and the economy from policy ineffectiveness at the zero bound so it is a very dovish outcome. Insofar as having 2.5% or 3% inflation makes policy more effective in a downturn there is a case for loosening the target, or not admitting to loosen but reacting to an overshoot anyway.


Hawks may argue that there is a case for raising rates faster, not slower, but the argument has to be made carefully. Assume that the next recession comes in a year from a source not related to Fed policy – the EU falling apart or a major geopolitical event. If fed funds is at 100bps, for example, they may have a meeting or two to stimulate by taking policy rates down while laying the ground for the much bigger stimulus from fiscal or helicopter money that would  be needed. If fed funds are very low, investors, households and firms may lose confidence when they recognize that policy has nowhere to go. But this logic depends crucially on this confidence effect which may or may not exist. Hawks can at any point argue that the risks of the zero bound are overstated or that easy Fed policy makes the next recession more likely by making a financial crisis more likely at some point, but that is outside the scope of the paper.

Incidentally, all of the above is a long-winded way of saying the Fed hiked rates, only to be forced it will have to not only cut them, as Japan did 7 months after its ill-fated August 2000 rate hike as we cautioned last August...


... but that when the US economy slides into the next sharp recession, no less than $4 trillion in QE will be needed to stabilize the economy, bringing the Fed's total holdings of government bonds to well over 30%. And with that in mind, we look forward to what "upside rate hike surprises" Yellen has in store for the market this coming Friday, especially if the politically-tasked Bureau of Labor Services continues to surprise to the upside with fresh record numbers of minimum-wage restaurant workers and bartenders.

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Ink Pusher's picture


*Only Another $4 Trillion In QE? I think they've underestimated again... 
johnrxx99's picture

Ha ha ha ha ha ha ha, Oh fuck!

lakecity55's picture

Haha, these fucks have dropped down the rabbit hole instaed of allowing honest interest.

wholy1's picture

Ho-hum. what else is new?  More illusory "[paper] birds in the bush".  The one in the hand has even flown off to chortle in a Chinese/Indian bank vault.
The dumbed-down, debt-ridden, debilitated, drugged, debauched, [MSM teLIEvision political/porn/sports] DISTRACTED "Murkaan/Euro Mushroom Majority", CHOOSING to continue "vegetating" on [legal] LSD - "Lame Scheme disino-Dung" - in the darkness of Plato's cave.  Sooooooooo screwed, faded and looked-at!
Best be bugging from those damn "urbs"/coasts, Folks!
Get "G'd" up:
  1) God - turn around/repent and REcovenant with the LORD as provided thru the Redeemer.
  2) Ground - portion of inland, elevated, arable, UINencumbered, RURAL county dirt.
  3) Group - very "neighborly" (military 101 - security in numbers).  Will you CHOOSE to be One of the "Remnant"?
  4) Gun[s] - want to keep those provisions from the coming urban roving gangs and deparate, UNprepared/repentant zombie "cit[y]zen" hoards?
  5) Garden - growing it is knowing it.
  6) Gold/silver coin - easily recognizable/tradeable "specie" with "inherent' value.
  7) Grains - storeables to supplement the garden and trade.


fightapathy's picture

I believe it was von Moltke who said "You can make a thousand battle plans, but they all get thrown away once the battle begins." Same thing with these so-called models.

WmMcK's picture

I believe it was M. Tyson ... you know the rest.

Hammer of Light's picture

Mike Tyson... "everybody got a plan till they get hit"!




rc59's picture

Keep feeding the economic whales imaginary plastic. 

And like the oceans, the huge mammals will die and beach. 

What a SCAM! 

It will only stop when the loop is closed -- not down to the tax-paying people to repay these bush*t imaginary figures from their real savings and labour, but rather up to the top 1% beneficiaries of the current '21st cenury' scam capitalism.

QE print all you want and send the bill to Bill Gates, Buffet, and the other feudal Barons ... and I guarantee the game will end overnight. 

It's time to start moving the imaginary debt to the global off-shore tax haven rackets and cancelling the imaginary credits they think they have on a few PC disck drives in a palm tree hut. 

arby63's picture

Wait, my formula is simpler: Shut the Fed down + Put them in prison = the start to a sound monetary policy. 

Wahooo's picture

HaHa! Bullish. Again!

rickv404's picture

$4 trillion in QE will GUARANTEE economic shock. They think they know best how the money's spent, so tax a limping economy in order to stimulate it. Crooks, all of them, running the federal government and its bank.

ramgold2206's picture

keep on stacking while they keep on diluting - eventually the cool-aid will run out



overmedicatedundersexed's picture

Jews running our central bank for decades..might have consequences?? not sure how important who run's the fed is, but somehow it seems important information that is never spoken of in traditional news outlets..who are run by ..you guessed it, well movies and tv would address this but they are run by?? I will let you guess who. International persons of great wealth influence our elections and immigration policy (as well EU)..are members of this group..latest internet billionaires are cough cough Facebook and google are as well..not that this is important, as nobody of any Public office ever speaks of this co incidence of this same group having such impact on all policy of  the western nations..just not an important fact I would guess..oh well..

Hammer of Light's picture

Ashkenazi Khazarian Zionist Jews colluding with the Jesuits... all roads lead to Rome via Israel banking and media. If it were up to me, they'd all be rounded up and mass graved to save humanity. But then again, you cannot save people from themselves! oops, what? Man I need a joint and a scotch for breakfast to go with my eggs:)

geekz_rule's picture

wtf. the CB's are completing the MONOPOLIZATION of the world.. literally printing money and BUYING  the entire world, right in our face. this isnt bail outs, this is TAKING OWNERSHIP OF YOU AND I, like a fucking Bond SPECTRE like bad guy.

forget isis, or what the fauck ever.. Banks OWN YOU and I. beyond terrorism, this is GENOCIDE. F Hayek's model to OWN the world:

1) deregulate global financial markets - complete

2) deregulate global trade -  complete

3) Bankrupt soveriegn nations with fiat paper - complete

4) privatize everything - nearly complete

inevitable. when P < P + I

and yet idiots worry about commies? socialists? obama? soros? wtf, morons. the fed and central banks already own your fucking children, bitchez

overmedicatedundersexed's picture

geek, could you name any common characteristic of who might own/benefit ..from this central bank take over?? cui bono?

Wow72's picture

Is anyone calculating what this does to the price of gold and silver on top of the printing we have already done?  Does anyone CARE???? ANYONE?

Anyone qualified to be working on our economy? Capable of realizing the TRUTH?  I know its a lot to ask?  I supposed I should be grateful for a government that could track 6 trillion dollars, but that seems like a bit much right now?  Lets just say fuck the 6 and print 20 trillion? Sounds good to me?  Mission accomplished? LETS GO BURN ONE!!!

Why bother ourselves with coming up with real solutions,  LETS JUST FUCKING PRINT and PARTY?  WHAT A RIDICULOUS JOKE THIS IS TURNING INTO?  IT CANT END WELL?


overmedicatedundersexed's picture

can't end well you say?? depends on who you are maybe..It's a big club and you and I are not in it. (g carlin rip)

Wow72's picture

If the People STICK together, it could end well.  Im not sure about the people anymoar though?  NOT A VERY BRIGHT BUNCH.  They are afraid to speak up for their rights and run to their safe spaces anytime things get touchy and uncomfortable, this does not bode well for the FUTURE OF America?  They are allowing themselves to be STEAMROLLED because they dont know the first thing about economics. 

Its like they are saying, "HERE TAKE MY MONEY.... I HAVE NO FUCKING CLUE?"  Like stealing candy from a baby, literally.

When there is no limit to the amount of "money" you pull from your future, money no longer has value.   This wont end well for ANYONE...... and there are no exceptions.  Its just plain fucking stupid from a historical perspective.  Just ask JIM.

overmedicatedundersexed's picture

a lot of us are happy with a ration of chocolate, I hear the .gov will increase it next month to 28 grams..I fear our society has soo many who have accepted the fact that .gov will supply everything we need, as long as we vote for the correct people..hillary will look after us after all. ..no need to work and produce ..plenty of free time to watch sports and tv..the new American motto from the hillary camp:  Be happy Don't Worry.


Wow72's picture

I heard Jim Grant use the expression "Virus of Thought" or something very similar, and its one of the most thoughtful ideas I have heard, and its exacty what repeats in history, I believe.   The virus of thought that tells the ego's they CAN CONTROL certain "things",  in reality its "things" THEY SIMPLY CANT CONTROL and have to let go of.   They all herd together as a group and reinforce these ideas, not letting new ideas into the group.  Group Think.  Fuck it lets try 20 trillion? That might do it? HEY Janet, FUCK IT how about 40 Trillion? I can give you a shipping address.  

Hammer of Light's picture

It's not going to end well... I'll bring a good bottle of scotch, fire it up and we'll burn one together while enjoying a nice single malt!

nathan1234's picture

Yellen- You are an insane woman

When your DOD cannot account for $6.5 Trillion ( in addition to the $2.5 Trillion Rumsfield spoke about 2 days before 9/11- total $9 trillion ) your $4 trillion is just loose change

Trillions have no meaning when your US $ is just toilet paper.

Go to Jackson Hole and remain there . You and your masters have already put the world into a bottomless hole.

innertrader's picture

I like that!  Yepping Yellen, go to Jackson Hole and jump in!

Last of the Middle Class's picture

Fundamentally they're using the stock market as a measure of the economy. The rationale being you should invest (in their ponzi) to make money. Now, well past the stratosphere of valuations in order to continue the QE (and thus the decimation) of the middle class ada flyover america, it will be a shock to the system. Such as lack of continued support for commodity prices, such as  . . wait.   here it comes  OIL! They're prepping for another massive QE probably well past 4 trillion in order to keep the ponzi going. We've really enter never never land and it's time to start circling the wagons locally. Our political system has failed us because we "didn't build that" and our candidates are opening fucking pickle jars to prove their worth. Crime never had it so good.

Hammer of Light's picture

The pickle jar opening thing on that douche bag Kimmel show... that disgusting diseased Clinton should be put up against the wall and executed for the treasonous murdering fucking thing it is. This nation has become a farcical joke!

Grimaldus's picture

Debauching the currency is a crime. QE is a crime.

The FED is a progressive criminal organization. Not one true constitutional conservative serves there.

To have a crime, you must first have progressives.






Hammer of Light's picture

My Daily Rant and Opinion... like it's worth a heap of dung right?

Here is a novel idea....

Hunt down and kill every central and supposedly FEDERAL banker in the entire world no matter where they think they can hide.

Do exactly this as well as hunt them down like we are hunting Joseph Mengele the Nazi angel of death and find every top level team of every NGO, all corporate bankers, IMF, World Bank, BIS, all of them in every corner of every land including all supporting cast members of legislators and especially the Bush's and Cheney's, Clintons, Merkel, Hollande Obamao and that tranny dude Michael, fuck it. KILL OFF every last one of these sickening diseased maggots who comprise global leadersip and banking.

A full hard reset is going to happen anyway no question, why not kill the actual perpetrators of the crimes of the premeditated murdering of  millions and those destroying our lives financially and economically through employment destruction just so they can control us and watch us squirm like we're their fucking playthings on a table full of plates and we are the dinner for ghouls? 

As for the supposed financial elite Rothschilds, VLAD THE IMPALER TIME! All world religious leaders tied to the global state who collude with them, get them too.

Their intentionally burning the world to the ground thinking they can get away with the murder of a half billion or more, it's time humanity make a stand and kill every last one of these wretched horrid things while removing them off this planet once and for all. I suspect that it's literally us or them time now.

The enemies of humanities children are among us... stealing from us, murdering us, causing us all to suffer endlessly through their sickness and disease of rotting soul... maybe it's time that we start thinking it's time to join together and send them to hell.

innertrader's picture

FOUR TRILLION.... the first year!

Goldbugger's picture

Looks like Deutsche Bank  (DB) is ready to crash with all of their unfuded liabilities in  DERIVATIVES in the TRILLIONS.


Ink Pusher's picture

I think they crashed out weeks ago and are just scrambling to fill their pockets before everyone else figures it out.

monad's picture

Theft and tribute. Drain the sewer.