What Will QE2's Legacy Be?

The Fed’s program has attracted a number of critics, but its long-term effects are still up for debate.

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Questions surround the legacy of the Federal Reserve's second round of quantitative easing—commonly referred to as QE2—and its effectiveness in kick-starting the economy. The Fed's first statement of 2011, released Wednesday, remains largely unchanged from previous ones. After lowering interest rates to virtually zero more than two years ago and then pledging to leave them there for an "extended period," the Fed launched QE2 in November 2010. As part of the program, it's purchasing $600 billion in longer-term treasury securities in hopes of pushing interest rates lower, spurring lending, and jump-starting an economy that seems to be slowly improving.

Still, the program has its share of critics, who believe QE2 is causing bubbles and inflation both in the United States and overseas. QE2 has a ways to go before it's scheduled to end in June. The Fed has said it reserves the right to purchase fewer securities than it originally announced, but most experts expect the program to be completed in its entirety—and maybe even continued—in the second half of 2011.

[See How QE2 Could Affect Your Money.]

"The Federal Reserve is going to remain very accommodative for a long time," says Aaron Gurwitz, chief investment officer for global wealth manager Barclays Wealth. "Whether there's more quantitative easing or not is a secondary issue, but we don't see them starting to tighten financial conditions any time soon."

Since Fed Chairman Ben Bernanke hinted at plans for QE2 in late August 2010, experts say the program has impacted markets worldwide. Here are a few arguments about its potential long-term effects:

[See QE2: Potential Winners and Losers.]

Yields are lower than they would have been. Treasury yields have risen steadily since the Fed's announcement in November. The 10-year treasury note now yields about 3.4 percent. On Nov. 4, 2010, the day of the Fed's announcement, the yield stood at 2.5 percent. Critics say the program is failing because yields have risen. Defenders say the yields must be considered in the context of a global economy, and that other factors like debt concerns in the United States have contributed to the rise in interest rates. Higher yields are also generally associated with a pickup in economic activity, which is one of the goals of QE2.

Other asset classes are benefiting. Stocks of all sizes have recently hit highs not seen since before the financial crisis in 2008. The last time the Dow Jones Industrial Average traded around 12,000 was in June 2008. Gold is trading above $1,300 an ounce, and there are concerns that other commodities like oil will begin to move higher this year. "If you hear that the Fed is going to do something to keep interest rates lower to stimulate the economy, then you expect stronger growth in the economy, you expect stronger corporate earnings, and you're going to expect stock prices to go up because stock prices always move in anticipation of higher earnings," says Stacey Schreft, former vice president and economist at the Fed.

Other experts complain that the Fed's program is creating a bubble in multiple asset classes. "It's inflated everything from stocks to bonds to commodity prices and agriculture prices," says Jeffrey Sica, chief investment officer of investment firm SICA Wealth Management. He believes stocks and bonds are in the midst of a bubble, and he's worried that the bubble could carry over into oil prices and slow the economic recovery.

[See How to Invest in Rising Oil Prices.]

It's causing inflation in emerging markets. Experts say the Fed's announcement has also raised inflation expectations globally. One of its mandates is to ensure that inflation remains stable and deflation doesn't become a concern. Critics are worried that the Fed's efforts will go too far and spur inflation in the United States and overseas. Sica is concerned that rising inflation in emerging markets like China and Brazil will cause those countries to become much more protectionist as they try to safeguard their currencies. Leaders in both emerging economies have recently raised interest rates in an effort to tame inflation.

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