Central banks around the world have engaged in massive asset purchasing programs of various kinds to offset the adverse impact of reduced private spending and contractionary fiscal policies (“austerity”). In general, the results have been disappointing although hoped for effects were probably unrealistic. Certainly in the U.S. the purchase of a trillion dollars in bonds each year has delivered less real sector stimulus than hoped for, and less inflation as well (it is a bit disconcerting to have a central bank trying to create inflation with its policies).

Although it is still a net buyer of assets, the Federal Reserve is now engaged in a process of “tapering.” This means that they are reducing their purchases of Treasury bonds and mortgage securities from $85 billion each month to 0, cutting purchases by $10 billion each meeting. This will leave the Fed as the largest owner of Treasury debt in the world, more than China or Japan. The Fed has purchased a trillion dollars of bonds every year for several years now, adding over $3 trillion to their holdings. Everyone wonders now what they will do with them. Buying them kept interest rates artificially low, selling them would raise interest rates and depress bond prices.

Some characterize this as “printing money,” but in fact that has not occurred. Here’s how it works. The Fed buys a Treasury bond from you (or your retirement fund, etc.) and writes you a check. You deposit the check in your bank. The bank now has your funds and can lend them out to a consumer or a business. However, the money has not been lent out because there is very little loan demand from qualified borrowers. So for the most part all the Fed has done is swap money in a checking account that pays no interest for the bonds you used to own that did pay interest. Your wealth is the same, you are just more liquid. So to get a return, you have maybe invested in the stock market or some other asset like gold, pushing the stock market to new highs. This kind of investment does not create jobs or produce products and services.

The Fed hoped the liquidity would be used to buy new buildings and equipment and to hire people, but that has not happened because consumers and business owners are fairly pessimistic about the economy and so will not take the risk of committing their money. The purchase of trillions in bonds and the resulting artificially low interest rates have not spurred spending and helped unemployment, as the Fed’s had hoped. The central banks have done all they can and admirably kept our banking systems functioning. However the benefit of continued asset purchases and growing central bank portfolios is unclear indeed. Unfortunately, it is the politicians that must do sensible things (with impatient voters ready to do the wrong things) if we are to fix our troubles. That might be too much to hope for.