One remarkable development during this crisis has been the Federal Reserve's early and aggressive action. During the last crisis, they were slow to act and were myopically focused on inflation until the spring of 2008. In hindsight, the recession had started in the fourth quarter of 2007.
They learned from these mistakes. Over the last decade, the Fed has been quite aggressive in meeting any sort of weakness with action especially since fiscal stimulus was absent for much of the past decade. Another lesson is that there were criticisms of monetary intervention - increasing inflation; more inequality; and punishing savers.
The inflation argument has turned out to be incorrect. This time could be different because fiscal policy is now stimulative rather than contractionary. The Fed's policies lead to lower interest rates and asset price inflation which does exacerbate inequality and punish savers but it could be the lesser of two evils by preventing deflation or a credit crisis which isn't good for anyone other than rich people with liquid assets.
Examining past QE programs and comparing them to the current one is an interesting and useful exercise.
Past QE Programs
QE1 ran from November 2008 to June 2010. In total, the Fed purchased $2.1 trillion of Treasuries (NYSE: TLT) and mortgage-backed securities (MBS). Over this period, the S&P 500 (NYSE: SPY) rose by 50%, and the yield on the 10-year Treasury declined from 4% to 3%.
QE2 ran from November 2010 to May 2011, and the Fed increased its balance sheet by $600 billion. The 10-year Treasury yield modestly increased from 3% to 3.3%. The S&P 500 gained nearly 20%.
QE3 was more aggressive in that it was open-ended. In comparison to previous QE programs in which the amount and length of buying were predetermined. This time, the program would only end when certain employment and/or inflation targets were reached.
It began in September 2012 at $40 billion of Treasury and MBS purchases per month and was increased to $85 billion per month in December. This continued until September 2013 when the Fed began reducing its purchases to $65 billion per month. It ultimately winded down QE3 in December 2014 with nearly $4.5 trillion in purchases. Over this period, the S&P 500 was up by 50%, and the 10-year Treasury yield went from 1.5% to 2%.
QE4 is a different beast and makes past QE programs look tame. The Fed started off buying $75 billion of Treasuries and $50 billion of MBS per day, as it seeks to flood the system with liquidity. These purchases have slowed, but the balance sheet has already grown by $1 trillion in a couple of weeks.
Lessons of QE
1. If inflation is low and the economy is not at full capacity, there is no constraint or adverse effects on the Fed. Now this time could be different given fiscal policy is also engaged unlike previous QE programs and the scale of the program is much larger and being deployed at once.
2. Stocks do well during QE. Lower interest rates make them more attractive on a relative basis, especially for dividend-paying sectors. Large companies can also use low rates to buy back shares.
3. Bonds surprisingly don't do as well. There seems to be a counterintuitive, front-running effect, where bonds rally before the implementation of QE and only start picking up steam, once the program is ending.