MARTIN FELDSTEIN: RIGHT CONCLUSION, WRONG REASON

--> In an article in today’s Wall Street Journal, Harvard professor Martin Feldstein states: “Quantitative easing, or what the Fed prefers to call long-term asset purchases, is supposed to stimulate the economy by increasing share prices, leading to higher household wealth and therefore to increased consumer spending.”


That’s a pretty limited view of the Fed’s objectives, and certainly not one to which the Fed would openly subscribe. Most shares are owned by rich people whose effect on consumer spending is relatively small, as is, therefore, the resulting stimulus to the economy. Relatively little wealth is concentrated in households that do most of the spending, so raising share values is bound to have scant effect on consumption. The principal stimulus achieved by QE is in the expansion of credit available for consumers to spend and invest in housing, and businesses to expand and hire in response to such spending and investing.


The reason the economy is limping along is that households acquired too much debt in the run-up to the Great Recession, and therefore, while the Fed has made credit readily available at low interest rates, over-leveraged households are more inclined to pay down debt rather than increase borrowing. Consequently, with the notable exception of the turnaround in housing, the Fed is “pushing on a string” in its attempt to stimulate growth with “easy money.” Feldstein is right that the Fed has pretty much shot its bolt, but his explanation of why this is so is sorely lacking. Stronger economic growth will have to await the completion of the household de-leveraging process.