What’s QE3 And Why Is Fed Doing It?

Sep 13, 2012 2:52pm

The Fed wants to get money moving in the economy, which is stuck in many ways. That’s why it announced today what’s being called QE3, or a third round of quantitative easing.

Until now the Federal Reserve was buying up Treasury bonds.  This depresses the interest rate available on these bonds and prices of assets like stocks go up.  The hope then is that people find they are worth more (401(k)s go up) and businesses can borrow at lower rates.  People and businesses then spend more, boosting output and hiring.   This has worked to some extent in the past in the other two rounds of easing since the financial crisis began in late 2007.

The Fed has been criticized for buying Treasury bonds to finance the U.S. debt.  So perhaps to avoid that criticism the Fed is now buying mortgage-backed securities.

The intended effect is similar to buying Treasury bonds —  as the Fed says, to “put downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative.”

Buying mortgage-backed securities could take these off banks’ books, possibly boosting lending and spending. Consumers may find it easier to refinance and buy new homes.  All of these things have a ripple effect on the economy.  As the economy grows, hiring grows.

By saying they may keep doing what they are doing until the ripple effect gets to the job market, the Fed is hoping to provide some certainty to employers and investors.

It all sounds squishy because it is.  We don’t know if this will work and create more jobs.  Even if it works it’s a long-term move, with no major impact on the job market before election day.

The gridlock in Washington makes the Fed one of the few entities able to do anything right now to help the economy.   Today’s action is not expected to do much, but it’s one of the few moves available to policymakers.

 

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