QE2 Will Aid U.S. Recovery Slightly but Will Boost Inflation, Anderson Forecast Says

The Federal Reserve's November decision to buy $600 billion in bonds will only marginally speed up the U.S. economic recovery but will accelerate the pace of inflation, the UCLA Anderson Forecast said in its quarterly report released Tuesday. The report will no doubt beef up the political squabbling that's taken place since the U.S. central bank enacted its second round of quantitative easing -- or QE2 -- last month.

Additionally, the report found that QE2 isn't likely to make much of a dent in a U.S. unemployment rate that remains stubbornly near 10%, while the halting of foreclosures by banks that have to rejigger their documentation will push back the housing recovery.

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The Forecast lifted its 2011 gross domestic product (GDP) growth estimate to 2.2% from its prior estimate of 2.1%. GDP growth will be 2.3% for the first quarter and 3.3% for the fourth quarter, up from the 2.1% and 3.1% previously estimated by the Forecast. The economy will grow at 2.7% this year -- by about the same amount that it contracted in 2009 -- according to the report.

Still, much of the economic benefits of greater productivity and spending will be offset by higher inflation. Average U.S. prices will rise 1.7% next year, compared to the Forecast's prior estimate of 1.3%, while 2012 inflation will increase to 2.1% from the prior estimate of 1.8%.

QE2: "Modestly Helpful"

"There are many critics who believe that rather than increase employment, the Fed will increase inflation," wrote David Shulman, senior economist with the Anderson Forecast, who classified the Fed's efforts as "modestly helpful" to the economy. "With fiscal policy constrained by high deficits and stalemated politics, the Fed is the only game in town."

The Fed and government officials continue to debate the merits of the Nov. 3 decision to buy $600 million in bonds. Federal Reserve Governor Kevin Warsh last month said the government's decision to buy up bonds could cause longer term inflation because of a weakening dollar and higher commodity prices. He added that the government may be better off reforming the tax code to incentivize companies to boost investment, according to various reports.

Meanwhile, Republican congressional leaders last month warned of "artificial asset bubbles" and long-term inflation as possible fallout from QE2 after the Fed Chairman Ben Bernanke said aggressive monetary policy on the part of the U.S. central bank may create as many as 700,000 jobs over two years.

Rise in Unemployment Provides Fuel for Critics

The debate over the effectiveness of QE2 gained steam last week when the U.S. Labor Department said November's unemployment rate rose to 9.8% from 9.6% in October and the U.S. private sector added just 50,000 jobs -- only about a third of what analysts had forecast. Additionally, the underemployment rate, which includes both the unemployed and those working part time who are seeking full-time jobs, remained the same -- a staggering 17% -- while the number of people out of work for at least six months increased to 6.3 million.

With many jobs shipped out of the U.S. during the recession, the central bank's monetary policy isn't likely to cut unemployment during the next couple of years, according to the Forecast, whose 2011 and 2012 unemployment estimates of 9.6% and 9.1% were unchanged from the third-quarter Forecast.

"Normally, during a recovery we would rapidly be getting the 2.5 million manufacturing jobs lost in the recession," wrote Edward Leamer, director of the Forecast. "But the shape of jobs in manufacturing has turned from V to U to L, as manufacturers increasingly respond to the cost-cutting pressures in recessions by moving jobs permanently overseas."

Additionally, foreclosure issues on the part of the largest U.S. banks will push back any housing recovery. Bank of America (BAC) and JPMorgan Chase (JPM) are among the financial institutions that have had to delay foreclosuresin recent months because of the possibility that the sheer volume of documents prevented bank officials from reading, verifying or notarizing what they were signing. Because of that, the Forecast estimated housing starts would drop to less than 2 million for 2011 and 2012 combined, down from its prior estimate of 2.02 million, while next year's median sales price for new homes will be $214,300, down from the $226,800 the Forecast estimated in September.

"The near complete breakdown in the foreclosure paperwork process has dramatically slowed the price discovery process and introduced a new element of uncertainty," Shulman wrote.