Testing The Fed's Narrative With The Fed's Data: QT Edition

“The fact that financial markets responded in very similar ways … lends credence to the view that these actions had the expected effects on markets and are thereby providing significant support to job creation and the economy.”
—Ben Bernanke defends the idea that markets and the economy respond significantly to quantitative easing

“… it will be like watching paint dry, that this will just be something that runs quietly in the background.”
—Janet Yellen refutes the idea that markets and the economy respond significantly to quantitative tightening

It doesn’t take much calculation to see that the Fed’s position on quantitative tightening (QT) is blatantly inconsistent with its position on quantitative easing (QE). You only need to notice that the excerpts above, taken together, violate the following pair of postulates:

  1. When A and B are opposites, the effects of A should be opposite to the effects of B.
  2. QT is the opposite of QE.

So financial markets and the economy should respond significantly to both QE and QT—although in opposite directions—or they should respond to neither QE nor QT. To claim otherwise, as in the excerpts above as well as other similar communications, is like arguing that one of the two postulates is wrong in the context of the Fed’s bond portfolio. That seems unlikely, but not impossible. In particular, the first postulate falls short of being absolute truth, reality sometimes being more complicated than we’d like it to be. Consider that Newtonian physics seemed absolute enough until Einstein came along.

But former Fed chairs Bernanke and Yellen aren’t relativity theorists and haven’t framed it like that. In public comments and speeches that I’m aware of, they haven’t acknowledged the postulates in the first place let alone explained why they reject the logic of opposite actions yielding opposite effects. In fact, they don’t have to acknowledge or explain, because major media outlets—those with invites to FOMC press conferences and “sources” close to the key decision makers—rarely challenge the Fed’s narrative. If you’re established in the mainstream, there’s no upside to investigating inconsistencies, only the downside of being seen as impolite while jeopardizing your coveted invites and sources.

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