Richard Alford: “Quantitative Easing Explained” And Its Critics

By Richard Alford, a former economist at the New York Fed. Since then, he has worked in the financial industry as a trading floor economist and strategist on both the sell side and the buy side.

The YouTube video “Quantitative Easing Explained” has surpassed 2.9 million views. The video is both entertaining and unremittingly critical of the Fed. In defense of the Fed, numerous economists, bloggers and mainstream media pundits have pointed out errors in the video. In doing so, the critics have missed the forest for the trees. While there are errors and oversimplifications in the video, it has resonated with the public because: a) it tapped into widely held perceptions about the Fed and b) the video deftly treated troublesome aspects of Fed policy with comedic license.

In fact, the defensiveness of the critics of the video has only served to convince many skeptics of QE2 that its proponents are unwilling to or incapable of seeing the troublesome dimensions attached the bailout packages and the decision to go forward with QE2. The critics of the video and the Fed itself also appear unaware of how much the stature of the Fed has suffered as a result of the financial crisis, the recession, and the bailouts. It behooves the Fed and its defenders to move past narrow definitional/legalistic responses and address the underlying concerns of many citizens and market participants.
Two examples of criticisms of the video that miss the forest for the trees are the responses to:

1. The assertion in the video that engaging in QE2 equates to printing money, and

2. The suggestion in the video that the Fed should buy Treasuries directly from the Treasury.

The Fed does not print money. It never has. Furthermore, the reserves that had been created as a result of QE are not included in the monetary aggregates. On the other hand, the Fed has by expanding its balance sheet contributed to inflation in the past and reserves are part of both the monetary base and “high-powered money”.

However, the import of the video does not turn on whether or not QE2 will create money or reserves. QE2 is presented as part of a long litany of Fed policy mistakes. Some of the mistakes are mentioned explicitly in the video, i.e., the Fed’s contribution to the housing bubble and its failure to appreciate the magnitude of the subprime crisis. Viewers will also have in mind the Fed’s failure to carry out its bank regulatory and supervisory responsibilities. Equating QE2 with printing money and policies of “banana republics and failed economic systems” is a short-hand humorous way of invoking the laundry list of costly failures in the minds of the viewers. Arguing a definitional point, reserves are not money, and ignoring policy failures misses the point.

While the critics correctly point out that the Fed is prohibited by law from buying new issues directly from the Treasury, they again missed the point. Main Street is deeply troubled by the Fed’s decision to play roles heretofore filled by the fiscal authorities and the bankruptcy courts. The video is a general protest against the role the Fed has played in transferring wealth from savers and taxpayers to Goldman Sachs and other Wall Street firms. The Fed is seen as picking winners and losers: Wall Street is seen as the winner and savers and the taxpayers are seen as the losers.

The video’s criticism of the Fed’s links to Goldman is also a protest against TARP, the Fed’s role in the de facto nationalization of AIG, the fall in interest income accruing to households, the revolving-door network whereby the regulators and the regulated play musical chairs with more than enough chairs, and so on. The American people care deeply about fairness, but the Fed is perceived to care more about the health of Wall Street than fairness. Instead of addressing the underlying issue of fairness and the efficiency of the bailouts, the Fed defenders focus on a narrow legal prohibition.

The video is popular and effective because it is not a detailed-footnoted-rigorous academic exercise. It humorously plays on what a substantial fraction of the audience already perceive to be true. It takes swipes at what many viewers see as an institution that is charged with promoting economic welfare yet they see it both detrimentally affecting their lives as well being arrogant and well insulated from accountability.
The Fed dismissed its critics while the housing bubble grew. It did so to its own detriment as well as to the detriment of the real economy and the financial sector. Those who defend of the Fed against the criticisms in this video may win every definitional battle, but they will lose the war for the hearts, minds and confidence of the American people. If the Fed and its supporters want to win the war, they must address the larger concerns:

1. Admit past mistakes (not because confession is good for the soul, but because the Fed can then assert it has learned from past mistakes and less likely to made mistakes in the future);

2. Explain fully the necessity of the financial interventions (For example, the majority of American believe that the AIG’s problems were limited to AIGFP and that AIG posed no systemic risk.);

3. Explain fully the reasoning behind the path chosen (TARP and interest rate subsidies) versus nationalization of failing financial institutions;

4. Explain the continued adherence to the economic and policy frameworks that failed to produce sustainable full employment and price stability and are seen by many as having contributed to financial instability and economic unsustainabilities which resulted in the financial crisis and the recession.

Maybe then the American people will respond better when the Fed says “trust me” in response to questions about a timely unwind of QE.

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24 comments

  1. wunsacon

    Two gems right here:

    >> The Fed does not print money. It never has.

    >> While the critics correctly point out that the Fed is prohibited by law from buying new issues directly from the Treasury,

    When the Fed buys worthless financial paper at prices far above market, it’s printing.

    When the Fed buys several-month-old Treasuries from banks (who act as the intermediary), it’s printing.

    …and then you go on to recommend the Fed “explain, explain, explain”? Heh.

    1. Parvaneh Ferhad

      Technically he is correct- but purely technically, in reality it doesn’t change anything. The physical printing (of notes) is done by the Bureau of Engraving and Printing (BEP) http://www.moneyfactory.gov/aboutthebep.html
      That doesn’t change the fact that nowadays the FED can ‘print’ money electronically by crediting the reserve accounts of the banks which involves no physical printing.

      This just proves that someone can lie while being technically correct. For all intents and purposes you are correct, the FED has printed money.

  2. Rick Halsen

    Holy Poopy I about lost my Great Recession induced Alpo dinner when I read this part……

    “1. Admit past mistakes (not because confession is good for the soul, but because the Fed can then assert it has learned from past mistakes and less likely to made mistakes in the future);”

    Is this kinda like to have expected that Al Capone would’ve learned from his mistakes and regretted his life of crime, that for the most part let him live in substantial luxury during very poopy times for most other poor downtrodden folks, and that henceforth looking back upon his life he then wouldn’t make the same mistakes in a reincarnated state?

    What part of unicorn skittle poopyland do I have to enter in order to swallow this gem?

    RH

  3. dave

    1) Is important and fully within the Feds power to do, but would mean putting powerful people’s feet to the fire.

    2) Is debatable and defensible even if people don’t agree.

    3) Is indefensible IMO, and is the reason that authorities won’t touch this. Even if you believe bailouts were necessary (#2) certainly there were much better ways to do it. And even if you believe better methods needed to be jettisoned due to “panic” and time constraints certainly we could have gone back over the last two years revised previous policy decisions.

    4) Failure of #3 could be partially forgiven if #4 was fixed going forward, but it hasn’t been. It hasn’t because the status quo favors powerful interests currently in control.

    So all the liberal establishment can come up with is a continuing debate over #2 that no side can prove because you can’t split the universe and see what happens without bailouts. #1, #3, and #4 can’t be addressed because they threaten political interests or the financial interests backing them.

  4. Larry Signor

    The comments here support the notion that the fed is widely distrusted. There are obvious reasons; Their failure to anticipate, prevent or mitigate and lead a systemic economic recovery being the most obvious. The biggest problem the fed faces is their 19th century, parochial organization. Americans simply do not understand the organization and functioning of the fed. It is beyond ludicrous that a democratic institution is beyond auditing and public accountability in America. In the minds of many Americans the fed is an archaic institution which breeds the devils spawn in its dark corners. Organizational clarity and accountability would go a long way toward acceptance of a federal monetary authority.

  5. Jeff Larson

    What if the Fed’s “mistakes” are not really mistakes, but intentional policies for the benefit of the stakeholders of the Fed? Explains a lot…

    1. LeeAnne

      Jeff Larson,

      Along those lines, we information, news analysis consumers, and ‘the people’ in general would be better served if every event that resulted in abuse of the public good; particularly those results that in normal times where ‘rule of law’ existed would have been thoroughly investigated, heads rolled, fraud uncovered, perpetrators frogmarched, was reexamined on the premise that the results are intentional for a single purpose.

      Increasing the power of the right; the military, the police, and the shadow CIA/banking government, including the privately owned deceptively named “Federal” Reserve Banking System and BIS “Bank for International Settlements” more accurately, the central bank, located in Switzerland, of all central banks to whom American tax money has been allocated in the $Trillions by Ben Bernanke, inspired by partner-in-crime Hank Paulson to be leveraged, squandered and used to enslave people all over the world to destroy representative government, not only in the Western world but wherever, anywhere in the world it struggles for existence.

      You can smell ‘globalists’ envy of the CPCCC (The Communist Party of China Central Control Committee), with the purpose of corporate enslavement and control of the people for the profit of university ivy league airhead corporatocracy executives, devotees and cronies who are skimming at the very least 500x the money paid to all others who create and EARN those benefits.

  6. DownSouth

    The Fed incarnates the corporate state’s triumph over the needs, desires and wants of everyday Americans. The Fed will never follow Alford’s recommendations because his prescriptions are antithetical to the raison d’être of the Fed.

    In architecture there is a concept known as Form Follow Function. As Wikipedia explains, “Form follows function is a principle associated with modern architecture and industrial design in the 20th century. The principle is that the shape of a building or object should be primarily based upon its intended function or purpose.”

    So if we look at the design of the Fed’s building in Washington D.C., what does it tell us?

    Here’s a photograph of the Federal Reserve building.

    Now compare that to this, the Nazi Chancellery.

    The University of Michigan has a web page entitled Art Under Fascism. A most eye-opening exercise is to look at the photo of the Federal Reserve Building and read this excerpt from “Art Under Fascism”:

    Hitler used architecture as another avenue to advance the power of the state. Nazi buildings were designed to intimidate and overwhelm. Architects like Albert Speer, Hermann Giesler, and Fritz Todt worked on projects that used stark facades with columns, pilasters, and clean lines on a massive scale to create a new aesthetic. Like the Fascist “New Man,” this new building style would exude power and domination… Nazi architecture served the state by emphasizing its values, demonstrating its power, and creating edifices capable of lasting for centuries.

    [….]

    Perhaps the most archetypical of Nazi buildings was the New Reich Chancellery in Berlin. The building housed administrative offices for senior officials of every branch of the Nazi regime. This building, designed by Albert Speer, was the nerve center of the government. Speer and Hitler agreed that this building needed to be impressive and intimidating, and wanted it to express Nazi ideals of order and strength. The Chancellery, actually an extension to the Kaiser-era Reichskanzlei, displayed all the features that have since come to be associated with the Nazi architectural style. The Voss-strasse entrance, seen below, used high columns and massive doors (topped with an eagle) to create an awe-inspiring entrance to the seat of Nazi power. (Speer Architecture). The long facade, noticeably lacks decoration. There are no columns or statues, only rows of windows, evenly aligned. These parallel rows, with small stone ridges running along them, emphasize the formal element of line. There is nothing exciting happening on this facade, no writhing sculptures or twisting baroque decorations. Instead, Speer’s design focuses on line. Nothing pushes against the lines and nothing curves. There is no opposition in row after row of horizontal lines, only order. Speer’s design reinforces the Nazi ideal of order, leaving no space for dissent. Everything is totally controlled.

    Another architectural web site dubs the austere modernist architecture of the 1930’s as “Fascist Stripped Classical.” As it explains, “Hitler saw architecture as, ‘The Word In Stone,’ a method of imparting a message.” Architecture is considered to be the only art form that can actually physically meld with the world as well as influence the people who inhabit it. Buildings, as autonomous things, must be addressed by the inhabitants as they go about their lives. In this sense, people are “forced” to move in certain ways, or to look at specific things. In so doing, Architecture affects not only the landscape, but also the mood of the populace who are served. There was no place for mysticism. Nazism was cool-headed and realistic. It mirrored scientific knowledge. “My architecture represented an intimidating display of power,” wrote Albert Speer, designer of the Chancellery.

    It seems to me the message imparted by the Federal Reserve Building is quite explicit. It is out in the open for all to see. Most of us, however, are either too brainwashed or too inattentive to see the obvious.

    Remember, Roman, to exercise dominion over nations. These will be your skills: to impose culture on peace, to spare the conquered and to war down the proud.
    –Virgil, Aeneid 6.851-53

    1. alex

      On the one hand I think you can read a bit too much into architecture, but on the other I agree with your critique of the neo-fascist style (or inappropriately grandiose styles in general).

      I’ve long thought that buildings like the Fed headquarters, the Supreme Court, and even the Capitol should be plain brick and suitably humble. Leave the grand architecture for truly public buildings like museums, memorials and train stations.

  7. Jim Haygood

    ‘Explain fully the reasoning behind the path chosen (TARP and interest rate subsidies) versus nationalization of failing financial institutions.’

    Sounds like the ‘false alternatives’ close beloved of slick sales pros. The choices were not limited to bailout vs. nationalization. Many of us advocated Option C: liquidate the suckers.

    As ol’ Andrew Mellon used to say, ‘Liquidate Morgan, liquidate Goldman, liquidate B of A, liquidate AIG … it will purge the rottenness out of the system. High costs of living and high living will come down. Rent-seeking leeches will work harder, live a more moral life. Values will be adjusted, and enterprising bankers will pick up the wrecks from less competent plutocrats.’

    Two ultimate objections to the Fed which Richard Alford fails to address:

    (1) The Feudal Reserve is a privately-owned bank cartel posing as a quasi-federal agency. This is utterly, categorically unacceptable and unconstitutional.

    (2) Soviet-style central planning of interest rates does not and cannot work. The Fed is, by definition, a value-subtracting entity. Its operational model is broke, and no quantity of oblivious PhD eggheads can fix it.

    This is why we manic, foam-at-the-mouth critics will continue pounding the ghastly monster with lead pipes and baseball bats till there’s nothing left of it but a stinky brown puddle on the floor.

    ‘Whack it again, Jim, HARDER!’

  8. flow5

    The FED deserves contempt – because it has been contemptable. Greenspan maintained an “easy” money policy for 41 consecutive months, despite raising the FFR 17 times. Then Bernanke “tightened” money policy for 29 consecutive months (beginning Feb 2006), sufficient to wring inflation out of the economy, but continuing until the economy completely collapsed. .e., Bernanke didn’t initiate an “easy” money policy until Lehman Brothers filed for bankruptcy protection. I.e., FOMC continued to drain liquidity despite its 7 reductions in the FFR (which began on 9/18/07). I.e., despite Bear Sterns two hedge funds that collapsed, the FED maintained its “tight” money policy (during credit easing, not quantitative easing).

    It is virtually impossible to miss forecasts of aggregate monetary purchasing power (our means-of-payment money X’s its transactions rate-of-turnover). But the FED decided to eliminate the “fire dectector” which would have definitively sounded the alarm bells during the housing boom. I.e., it discontinued the publication of bank debits in 1966 just before the boom started. In fact, the largest criticism of bank debits is that they reflected financial transactions (specifically existing property transactions).

    Whether QE2 eventually ends up to be another destructive policy decision is as yet unresolved. But the member bank’s idle, & un-used excess reserve balances are still excessive. Indeed, they are deliberately contractionary.

    Gradually lowering the remuneration rate would have been the correct policy prescription.

    The FED’s policy to redistribute income – upward, should be corrected.

  9. Karen

    Good piece, except that I don’t see how recommendations #3 and #4 can help the Fed (or Treasury). There is no way to regain trust by any effort to better explain terrible policy decisions.

    Admission of past mistakes, promises not to repeat those mistakes, and announcement and implementation of MUCH better policies from here on out, might have a chance.

    Not that they will do any of that.

    I also think it very likely that the past mistakes – which IMO include current policies – have already baked in so much future trouble that before it is all over the people will be howling for Fed, Presidential, Congressional, and Wall Street blood.

  10. steelhead23

    Interesting post. But Richard, you seem to miss the elephant in the room. That elephant is the very concept of Too Big to Fail. First and foremost, many of us believe that central bankers used the fear of systemic collapse to steer public policy, policies that have led to enormous public debts while the banks that own the Fed grew ever-richer. Thus, if you wish to be an apologist for the Fed you should work to convince us that bankruptcy and reorganization of the TBTF institutions would have been worse for We the People than this mountain of debt. And please note, it is far from clear to me that the TBTFs won’t fail anyway. Next you could explain how the Fed’s management of credit resulted in credit aggregates growing much faster than GDP and much much faster than wages. Indeed, over the past decade, virtually all growth in GDP was growth in credit. “Grow, baby grow,” seems to have been the Fed’s vision. How do you believe such debts would be paid? Fairy dust? Some view credit as the fertilize for the economy. From where I sit, its just manure.

    In short, for the past 30 years the Fed has operated to benefit the big banks and nobody else. Please explain that.

  11. Bruce Krasting

    I find it interesting that Mr. Alford considers it necessary to defend the Fed and its policies against a YouTube cartoon video.

    The principal correction he points to:

    “The Fed does not print money. It never has.”

    Well here is what The Economist had to say on this topic in this weeks edition:

    “On November 3rd the Fed said it would buy $600B of Treasury Bonds WITH NEWLY PRINTED MONEY.”

    Mr. Alford can say as he wants. It will make no difference. The jury is out on QE. It is printing money. It is voodoo economics. It is a busted policy step by the Fed. It is destined to a failure and will have a very bad ending.

    The end result will be that there is no beneficial effect from QE2. Look at the results so far. The Fed will be marginalized.

    Face it Mr. Alford, QE2 was a dumb mistake. If the Economist does not believe you then you can just forget about changing the opinion of the millions who saw the video.

  12. Matt

    The Fed has increased the outstanding Federal Reserve Notes by several hundred Billion in the last few years. And has invested that for the most part in MBS bought from people who in turn eased the US deficit by buying Treasuries.
    The vast majority of easing has been accomplished by the banks increasing loans and deposits by about 2 Trillion, including an increase in 600 Billion in Treasury holdings.

    The masters of the debt is money debt slavery boom and bust US economy are the banks which own the FRB.

    What I believe the FRB is guilty of is lack of regulation of their owners, especially as the banks have created over 5 Trillion in off the books entities and created Trillions of difficult to market and difficult to value derivatives.
    Who would think any of the bank positions will have any more ability to clear than the AIG positions?

    1. the philosopher

      They are mostly guilty of complacency. Obviously, they believe now that they have the power to regulate money creation in the shadow banking sector – so they could have done it back then when subprime MBS was accepted as collateral for institutions leveraged at 30:1.

  13. Doug Pinckney

    Mr. Alford, thank you for writing.

    I believe you’re playing a semantic game by claiming the Federal Reserve doesn’t print money.

    Yes, of course, the Federal Reserve does not actually print currency or mint coins. But they do create “out of thin air” the funds, excuse me, the “bank reserves” that are used to purchase assets in QE operations. Those reserves count as cash on the balance sheet of the receiver, yes? They can be spent as cash if the receiver so chooses, yes?

    If so, then what is the effective difference between creating reserves for QE purchases and the physical printing of money?

  14. TurtleBay

    A vast majority of people don’t understand how money works. We are so far removed from the gold standard that many people think that hard money tied to metals is the way money should work because this is how they rationalize its value. Globally, our collective knowledge of the Great Depression, the Long Depression and the inflation/deflation spikes from before adopting the Fed and fiat money is long gone.

  15. Jackrabbit

    Alford’s shadow PR campaign continues to harmonize with the banker siren song. In this installment, he calls on all economists of good will to join in Geithner’s myth-making.

    1. scraping_by

      I see you, too, noticed that Mr. Alford describes the “critics” as operating out of emotion and ignorance (perceptions) while presenting the Fed’s opinion stated as simple fact. This is quite consistent through the article, letting the Fed be well-meaning but overwhelmed. Not an inside player supporting a corrupt elite.

      At best, the Fed’s printing money to give to large financial companies is “troublesome”, though being troubled is an emotional reaction. The play-pretend of redefining money as not money when we don’t want it to be money might be Stun the Student, might be getting lost in legalisms, might be flim flam in service of the wealthy masters. Dunno. Jury’s still out.

      Economists have blown away the myth of expert insight, are rapidly coming to the end of the value of deep study and specialist knowledge, and are pretty soon going to be dependent on unexamined goodwill. With this kind of condescending dust clourd, good luck on that.

  16. Jim Haygood

    ‘Maybe then the American people will respond better when the Fed says “trust me” in response to questions about a timely unwind of QE.

    I stated in writing in Dec. 2008 that QE1 would NOT be unwound. My rationale was that in what is essentially a Ponzi process, exponential growth must be maintained. Any attempt to go into reverse will produce near-instant economic collapse.

    Until this year, the Fed maintained the fiction that QE1 would be withdrawn, or allowed to run off. Now, with QE2, the Fed has admitted that not only can they not unwind QE1, they are even obliged to expand it!

    Once again, I will state on the record that QE2 will not be unwound, because it can’t be. Attempting to do would wreck the Ponzi economy.

    It is amazing that central planners who spent almost two years conjuring the fantasy that QE1 would be unwound, now expect us to believe the same absurd claim about QE2.

    “There’s an old saying in Tennessee — I know it’s in Texas, probably in Tennessee — that says, fool me once, shame on, shame on you. Fool me … you can’t get fooled again.” —President George W. Bush, Nashville, Tenn., Sept. 17, 2002

  17. Doug Terpstra

    “If the Fed and its supporters want to win the war, they must address the larger concerns…”

    There was no war, only a coup and they won—but war is coming. What’s now obvious now to everyone is that the “Fed” is a criminal racket, serving its own private interests. Please Mr. Alford, can we finally stop pretending they give a damn about the American people or that they will ever pay anything but lip service to their charter? They never have and never will.

    Jim Haygood is right: QE2 has sailed, and QE3 is now boarding. There’s simply no way they can save themselves without hyper-inflation and destroying savers. And NOTaREALmerican’s link backs him up perfectly. Commercial Real Estate is the next powder keg the media is keeping under a lid, but it’s about to blow and bring on QEx.

    The “Fed” serves only its bankster owners, period, and it’s time to end it. Nationalize the Fed and the privateer banking system.

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