There is an obvious connection between the just announced round of Quantitative Easing - (QE2) and the disastrous election results for the incumbent Democrats. The link is the state of the economy and, in particular, the state of the labor markets (Charts 1 & 2). As is well known, the unemployment rate is stuck at a little under 10%. The total, including discouraged workers, is 17% and the percentage of structurally unemployed (27 weeks or longer) still hovers at 42%, close to the post-war high.
The Federal Reserve is a very political institution. It has a legal mandate to create full employment as well as price stability. The latter is believed by the Fed to be about 2% higher than the current inflation numbers. QE2 marks a sharp escalation in the war of the currencies, a form of protectionism to export U.S. deflation and unemployment abroad. It will have significant consequences for financial markets and will be the focal point of acrimony at this week’s G20 meeting in Korea. First, let’s back up a bit for some perspective.