Andy Kessler on QE2

Andy Kessler, a well-regarded business and financial journalist, wrote an excellent piece earlier this month on what QE2 tells us about what Ben Bernanke believes to be the short to medium-term outlook for the U.S. economy:

 

Mr. Bernanke claimed earlier this month in a Washington Post op-ed that “higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending.” But, as Mr. Bernanke must know, the Japanese have been trying to influence their stock market for 20 years, with little effect on their economy. It is also unlikely, as some claim, that the Fed chairman is whipping up a stealth stimulus or orchestrating a currency devaluation. He knows these have been tried and are more likely to destroy jobs than create them.

I have a different explanation for the Fed’s latest easing program: Without another $600 billion floating through the economy, Mr. Bernanke must believe that real estate (residential and commercial) would quickly drop, endangering banks.

That is, the Fed chairman believes that we’re at risk of another financial crisis in the near future. Kessler treats this a near-inevitability, and he calls for sweeping measures: 

 

It can’t reprise the 2009 bailouts, which failed when banks wouldn’t sell their distressed mortgage-backed securities because they didn’t have enough capital to stay solvent. No politician would agree to bailouts anyway. This time, the Fed should do what it didn’t do in 2008-09: detoxify and recapitalize the big banks. The Dodd-Frank banking reform provides the authority for the Fed and the Federal Deposit Insurance Corp. (FDIC) to do this.

Think of it as what the FDIC does on Fridays (taking over failed banks), but on a huge scale. First, guarantee deposits so lines don’t form at branches, and provide short-term loan guarantees as a backstop to short-term lenders. Then move the toxic debt onto the balance sheets of the FDIC and the Fed, and refloat the banks with fresh capital to open on Monday morning. Also, fire management.

The goal is to leave behind a healthy banking system:

All that’s missing is a mechanism to make sure foreclosures continue in a fair and measured way so real estate prices stay accurate. But the freshly capitalized banks, free of nonperforming loans, will help fund an economic recovery. The stock market will fly based on prospects for future corporate profits, rather than on unsustainable Fed goosing.

Kessler’s argument seems sensible to me. I’d love to hear alternatives, as the prospect of having taxpayers take on vast quantities of toxic debt seems highly unappetizing. 

Reihan Salam — Reihan Salam is executive editor of National Review and a National Review Institute policy fellow.

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