U.S. Economy To Boom And Bust Again?

United States federal reserve announcement on Wednesday to purchase additional treasury bonds worth 600 billion dollars as part of second round of “quantitative easing” to enhance weak economic growth raised concerns for the emerging economies.

The Fed said in a statement “The pace of recovery in output and employment continues to be slow”. The Fed has already spent 1.7 trillion dollars on buying U.S. government debt and mortgage-linked bonds to boost the sluggish economy without much success so far.

The central bank’s Federal Open Market Committee said that it will “purchase a further 600 billion dollars of longer-term Treasury securities by the end of the second quarter of 2011, at a pace of about 75 billion dollars per month.” The Fed has kept the target range for the funds rate at a historic low level of zero to 0.25%.

Justifying their policy the Fed said, “Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software is rising, though less rapidly than earlier in the year, while investment in non residential structures continues to be weak”.

The policy of second round of quantitative easing raised domestic and global concern for the uncertainty of its effectiveness. Thomas Hoenig, Kansas City Fed President, had expressed concern on October 25 that quantitative easing may lead to another boom and bust cycle calling the proposal “a bargain … with the devil”.

Pointing to double-digit unemployment rate and Fed’s expressed concern of deflation Bernanke criticizes Feds for their failure to keep unemployment and inflation on sustainable levels. Bernanke also points out that Feds have no other tools to boost economic growth.

Martin Feldstein, Harvard University economist, wrote in the Financial Times article published on Wednesday, “The Federal Reserve’s proposed policy of quantitative easing is a dangerous gamble with only a small potential upside benefit and substantial risks of creating asset bubbles that could destabilize the global economy”.

Second round of quantitative easing can further lower the value of the U.S. dollar against other currencies resulting in boost for U.S. exports. Decline of U.S. dollar will also reduce the value of China’s forex reserves of 2.65 trillion dollars.