Believe those who are seeking the truth. Doubt those who find it. Andre Gide

Thursday, November 14, 2013

Andrew Huszar: Confessions of a Quantitative Easer

Former Fed employee, Andrew Huszar, lays into the Fed here: Confessions of a Quantitative Easer. His opening salvo is a doozy:
I can only say: I'm sorry, America. As a former Federal Reserve official, I was responsible for executing the centerpiece program of the Fed's first plunge into the bond-buying experiment known as quantitative easing. The central bank continues to spin QE as a tool for helping Main Street. But I've come to recognize the program for what it really is: the greatest backdoor Wall Street bailout of all time.
What supports his claim that QE is a "bailout" for Wall Street? The fact that stock prices have risen. Goodness. Was he hoping instead that the Fed's QE program might have caused asset prices to plunge?

Perhaps not. But what about "Main Street?"
Despite the Fed's rhetoric, my program wasn't helping to make credit any more accessible for the average American. The banks were only issuing fewer and fewer loans. More insidiously, whatever credit they were extending wasn't getting much cheaper. QE may have been driving down the wholesale cost for banks to make loans, but Wall Street was pocketing most of the extra cash.
What justifies this claim? He doesn't really say. He doesn't really need to. Everyone who wants to believe this already knows it is true. And yet, inconveniently, we have the evidence:

I love the contradictions that emerge from his ill-thought-out diatribe. On the one hand, he claims that QE has had a marginal (but positive) impact on the real economy. But on the other hand, he suggests that QE has averted (postponed) an economic disaster -- a situation that would have forced our policymakers to confront the real structural problems that beset this great nation.

Here is Mr. Huzsar on CNBC, where he appears to backtrack a bit. And for good reason: Melissa Lee dismantles him immediately with facts that contradict his argument. Most of his discourse is a babbling brook of incoherence. What is the man saying? What is his point?

At its most basic level, QE is simple to understand in terms of its motivation and its operation. To begin, it's not about printing money and injecting it as "gifts" or "bailouts" to various agents in the economy. The Fed is legally prohibited from such activites (which lie in the domain of fiscal policy).

All the Fed is permitted to do with the new money it creates is to buy securities--mainly government securities, but recently also agency debt (mortgage backed securities issued by Fannie and Freddie). Agency debt currently yields about 3%. Fed paper yields (1/4)% or less. The Fed makes a profit on the interest rate differential. It remits this profit to the U.S. taxpayer (remittances have hit record levels in recent years).

The purpose of printing money to buy agency (and other) debt is to drive up the price of these instruments--equivalently, to drive down their yields. Savers who have government bonds and other securities in their wealth portfolios experience capital gains as interest rates fall. Homeowners refinance their mortgages at lower rates, releasing purchasing power for other purposes. Lower interest rates will hopefully stimulate capital (and other forms of) spending. That's the basic idea.

How well has it worked? The effects have likely been modestly positive. But nobody knows for sure. What are the costs? I am hard pressed to identify immediate costs. Huszar suggests that one cost has been to divert attention away the real structural problems that need to be fixed. I agree with this sentiment, but disagree that it has anything to do with QE per se. It has more to do with the general belief that monetary policy can fix the problems at hand. There may, of course, be future costs to contend with, like future inflation. But inflation and inflation expectations remain low and anchored.

I'm not sure what Mr. Huszar was expecting when he took his "dream job." What did he expect a bond buying program to entail? What would he have done differently and why?  And as for his apology, I'll take it more seriously when I see him return his salary to the American people.


  1. Wouldn't it be "give his salary to the American people?" Was he paid by the Fed, or by the Feds? In other words, was he paid by the people (via the government), or by the BOG? Alternately, do I have a complete misunderstanding of how this all works, or what you meant? (Can't eliminate that possibility.)

    1. Jonas:
      The Federal Reserve Banks are required to remit their profits (net of the 5% dividend paid to shareholders, operating expenses, salaries, etc.) to the Treasury. Thus, his salary represents a foregone remittance to the Treasury (the US taxpayer).

    2. Its hard to imagine that central planning of money for a nation of "free people" is allowed to operate for profit at all.

  2. David- Thank you. I thought there was something I'd neglected.

    I found the tone and substance of this post slightly curious given the tone of some other recent comments you've made here and elsewhere regarding QE. Does it best summarize your views on QE to say that the costs are minimal, but the benefits are uncertain, so QE is therefore neither unabrogated evil nor the greatest thing since the protractor, and that it's bad form to criticize it after earning a living due to its existence?

    1. Jonas:

      As you know, I have been critical of Fed policies in the past and, indeed, I am skeptical of the benefits of QE. Basically, yes, it is "neither unabrogated evil nor the greatest thing since the protractor."

      However, it is, in my view, perfectly acceptable to criticize Fed policies whether or not one has been in their employ. But the criticisms have to be substantive and not inconsistent with the data. It would also be nice if they weren't laced with crocodile tears.

  3. "The purpose of printing money to buy agency (and other) debt is to drive up the price of these instruments--equivalently, to drive down their yields."

    Hi David. I thought folks like you and Steve Williamson adopted an irrelevance approach to open market operations and QE. Have I got this wrong? Or do you have a different take on things than Stever?

    1. JP, I am only describing the motivation for the program. Whether and to what extent is has been successful is a separate issue.

      As for "irrelevance results," we (including Steve) have models where balance sheet size and composition matters. The key question is whether empirically these effects are very large. I don't think so, but I'm not absolutely certain on this.

  4. David,

    My bet is that the costs of QE will not be seen until it stops. Although I'm not sure how much more money I can lose until the end comes.

    1. Equivalently, your bet is that the benefits of QE will not be seen until it stops, right? ;)

  5. I read your post aloud to my father and he wanted me to let you know that it reminds him of exactly how you are; firm, but fair. There is no BS that is going to baffle your brains.

    Carmine and Jaclyn D'Emilio

    1. Firm, but fair. Hey, I like that! :)
      Thank you, Jacklyn. Please say hello to your dad for me.

  6. Andrew Huzsar was employed on the Agency MBS portion of the QE1 program by the FRBNY. Recall that at the time that QE1 was announced on November 25, 2008 spreads on Agency MBS had opened up and one of the primary goals of the Agency MBS portion of QE1 was to narrow those spreads.

    Normally there is a very strong correlation between 10-year T-Note yields and 30-year mortgage rates. Here's graph that will give you an idea of what the Fed was thinking about with respect to mortgage rates. The blue line is the actual 30-year conventional mortgage rate.

    To construct the red line I did the following. I regressed mortgage rates on the 10-year T-Note yield over April 1971 through 2006 (before mortgage spreads increased) in order to find the equation of the line of best fit. The red line thus consists of the fitted values. In other words it is what is "normal" for mortgage rates. The green line is the difference, or residual. Positive values suggest that there are problems in the mortgage market:

    Note that the residual started increasing around mid-2007 and reached its widest point (1.61 points)in December 2008, just after QE1 was announced. By the conclusion of QE1 in March 2010 it had fallen to (-0.16) points. So in my opinion QE1 was highly successful in restoring mortgage rates to their normal values.

    (Incidentally the standard deviation of the residual is about 51 basis points meaning anything more than 1.02 points difference is statistically significant at the 5% level.)

    Here's a paper on the effects of the Agency MBS portion of QE1 on mortgage markets that suggests that, contrary to Andrew Huszar's opinion, it was successful in reducing mortgage spreads and boosting mortgage market activity.

    $1.25 Trillion is Still Real Money: Some Facts About the Effects of the Federal Reserve’s Mortgage Market Investments
    Andreas Fuster and Paul S. Willen
    November 2010

    "This paper measures the effects on the primary U.S. mortgage market of the large-scale asset purchase (LSAP) program in which the Federal Reserve bought $1.25 trillion of mortgage backed securities in 2009 and 2010. We use an event-study approach and measure the movements in both prices and quantities around the initial announcement of the LSAP and subsequent changes to the program. We use a new dataset to document the changes in the menu of rates and points offered to borrowers and show that there was wide dispersion in the rate changes generated by the announcement of the LSAP program, with some borrowers seeing immediate rate reductions of up to 40 basis points and other borrowers confronting rate increases. We show that the LSAP program led to a substantial boost in market activity, with discontinuous increases in searches, applications, and originations for refinance mortgages but not for purchase mortgages. Finally, we show that more creditworthy borrowers were significantly more likely to benefit from the improved credit availability."

  7. Of course its just me, and I am among the tribe of "wackos" who does not believe a system that revolves around one entity that has a magic balance sheet whose liabilities are really not obligations to perform or provide anything of value....but why do we still claim there is a "free market" in government debt? Doesn't the existence of said magical entity, the only player in the market without a real world p&l like the rest if us, mean that its not a real free market? And if this is the best system we can come up with, why be taxed at all? Just have the magic entity buy it all and distribute the money among the people who cant perform magic.
    After all, it is supposed to be a system for the peoples benefit, right? What could be more beneficial than that?

    1. And why all the show surrounding the debt ceiling? If gov debt is the matching portion of an infinite number, we need to quit pretending it matters and not publish or track national debt at all. And raise the minimum wage according to the rate of all previous net escalations and reductions of the entity with boundless liabilities. There are real people trapped by that minimum wage number whose only ability is their effort, vs the infinite ability on the magical side....who a furiously and openly trying to raise all prices everywhere.

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