I have discovered a key reason why US quantitative easing is not achieving its prime objective of significantly reducing unemployment. America's unemployment is not likely to fall significantly until the Federal Reserve wakes up to its mistake and tapers QE.
I would not normally make such bold statements about the US from Australia but yesterday I was dining with one of America’s significant and active investors in US non-listed medium sized businesses. These businesses cover a wide array of industries so the group is closer to what is really happening at the heart of US business than many members of the US Federal Reserve.
They say that most of the businesses they talk to are enjoying higher profits and productivity is rising markedly. Normally these companies would now be investing strongly and hiring more people but they are frightened to hire more people because they fear that the end of QE might cause a significant downturn and they will be caught out.
So we have a bizarre American situation. The Federal Reserve says that it will keep QE going until employment improves but it is QE that is a big factor blocking the improvement in employment. It could only happen in the US.
Nevertheless there are signs that the US Federal Reserve is realising that QE must end (Fed officials expect taper 'in coming months': minutes, November 21). What QE is doing is boosting share markets and making wealthy Americans a lot richer and this increases the income divisions in the US community (De Blasio dreams of a different New York, November 15). In turn this also makes people edgy.
And employers also become more edgy when they see that the take home pay of their employees is falling because of 10 per cent plus increases in medical insurance.
Just how big of an effect will tapering have on the world and the US? ANZ Bank chief Mike Smith told Alan Kohler on Inside Business that the end of QE would mean, “This period of massive liquidity will come to an end".
"And the breaking effect will actually be a little bit more significant, I think, than people realise, but I don't think the tapering will happen until well into next year," he said.
Smith says US interest rates will rise as will the US dollar. This will have a serious effect on some emerging countries that have borrowed in US dollars. In Indonesia and India they have taken actions ahead of the event.
As I see it, the major Wall Street banks have been having a ball with QE and have once again taken big risks. The problem is that no one knows just how big are those risks and how much disruption is ahead – hence the uncertainty in the US.
And of course we should not forget that the automatic spending cuts in the US, which are ramped up in 2014, will reduce employment. If the end of the tapering comes as these cuts are increasing it will increase the impact.