As we speak, the Fed is meeting, hopefully to decide to add more monetary stimulus to a stalled economy. That’s despite the weird letter out this morning from Senate and House Republican leadership, telling the central bank to sit on their hands.
I’m not shy about telling the Fed what to do, and I don’t believe politicians should be so either—back in the bubble days, I and others of my ilk constantly argued in favor of such arguments, pushing back against the G-span Fed’s bubbly, deregulatory ways.
But the points made by the signatories to this letter are just wrong. They inveigh, for example, against the a weakened US dollar, when precisely that type of exchange rate adjustment is necessary and desirable in a weak economy like ours (slow growth and low interest rates decreases the value of the dollar against the currencies of our trading partners, helping to boost our exports, growth, and jobs).
Ultimately, the American economy is driven by the confidence of consumers and investors and the innovations of its workers. The American people have reason to be skeptical of the Federal Reserve vastly increasing its role in the economy if measurable outcomes cannot be demonstrated.
Sure confidence matters. But from where do they think it’s going to come? Right now the American economy is driven—or not, as the case may be—by fundamental variables upon which confidence and “animal spirits” depend: demand for goods, services, and investments, all of which obviously link to the price of borrowing.
Look at this little box I made. We desperately need fiscal and monetary policy to work together right now. We need to be in Box 1.
But the R’s, with their broad opposition to growth-oriented fiscal and monetary policies long to lock us up in Box 4.
Since the Fed is independent, and will thus hopefully ignore this letter for top R’s, we may well end up in Box 3, which is better than 4, but not much. In fact, as I’ve argued for months, stimulative fiscal and monetary policies are complements now, not substitutes. (If I had to choose between 3 and 2 right now, I’d choose 2.)
And there’s a sequencing that’s important as well. As long as demand remains so flat (and the housing market remains in limbo), investors and households both are unlikely to respond to lower interest rates. For one, they’re already low, and large firms are sitting on mountains of cash reserves.
But measures like the ones in the President’s jobs bill can help boost paychecks, create jobs in infrastructure and teaching, and lower the cost of hiring. By creating more of that type of economic activity, households and investors are more likely to take advantage of low rates. In the absence of such fiscal stimulus, monetary stimulus risks “pushing on a string.”
So, Congress and Fed need to move this economy from Box 4 to Box 1…and quickly.