Surowiecki and Lindsey on QE2

by: Ira Stoll

Two magazine pieces are newly out about QE2.

In the New Yorker, James Surowiecki writes:

If you listen to the Fed's critics, you'd think that investors and lenders and borrowers are back to their reckless ways, pouring money into dubious investments. In reality, the economy is still dominated by caution. ... Although the stock market is reasonably priced, investors aren't exactly throwing money at new companies. ... In these conditions, injecting more money into the economy, and nudging people to take a little more risk, is what the Fed is supposed to do.

Contrast Mr. Surowiecki's claim that "investors aren't exactly throwing money at new companies" with this post by venture capitalist Fred Wilson of Union Square Ventures at his widely followed "A VC" blog. Mr. Wilson writes:

The venture capital business is showing good returns for the first time in a decade. The sectors that are performing best are web services and early stage/seed investing. These are sectors we have been investing in for over fifteen years. ....

However, these sectors of the venture capital market are filling up with investors chasing returns. And some of them do not understand what they are investing in. I got a call a few weeks ago from an individual investor who wanted to invest in one of our portfolio companies. He asked about the company and from his questions it was pretty clear he did not understand the business very well. He went ahead and made an offer to invest. That scared me.

I've been visited recently by a number of foreign investment vehicles, many of whom are investing billions of dollars of sovereign wealth. They all want to get into our funds and our deals. When I talk to them about why, they can't really articulate a cogent argument about the economic potential of the social web. But they see the returns and want some of them too. That scares me....I do think we are seeing signs of excess in the markets we invest in and I do think we are seeing investors chasing returns in deals they don't fully understand. That is a red flag.

Mr. Wilson and Mr. Surowiecki have an apparent disagreement over whether investors are "throwing money at new companies." Under the policy advocated by Mr. Surowiecki, the Federal Reserve is supposed to decide who is right, and adjust monetary policy accordingly. That's a kind of central planning. Under a more decentralized approach, individual investors would decide for themselves how much risk to take and in what sector, without being pushed in one direction or another by the Fed. That way, if Mr. Surowiecki thinks that stock market is "reasonably priced," he can buy shares, and if Mr. Wilson thinks the venture capital market is getting frothy, he can keep some of his money on the sidelines until things slow down. The collective judgment of large numbers of individuals about such matters is probably better than than that of even the experts at the Fed, as the title of a certain book by a certain New Yorker writer suggests.

Mr. Surowiecki goes on to write about "the risk that, a year or two from now, fifteen million people will still be unemployed," and to assert, "Opponents of QE2 are effectively saying that the government should do nothing to try to change this."

That's ridiculous. The government has tools other than monetary policy, It has tax and regulatory policy. The open letter from a bunch of the opponents of QE2 to Ben Bernanke said exactly that: "we think improvements in tax, spending and regulatory policies must take precedence in a national growth program, not further monetary stimulus." That's not "nothing," that's "improvements in tax, spending and regulatory policies."

Meanwhile, over at the Weekly Standard, Lawrence Lindsey, president of the Lindsey Group and a former Fed governor, writes that we should hope quantitative easing doesn't work too well, because if it does, "its near term success would mean a catastrophe for government finances," as higher interest rates would raise the government's cost of borrowing.