Assimilated By the Borg?
In my post Bernanke Assimilated By the Borg? I discussed how Economist Paul Krugman faulted Fed Chairman Ben S. Bernanke for turning his back on his earlier economic theories favoring quantitative easing since becoming Chairman of the Fed.
However, a Washington Post article by David S. Hilzenrath, dated May 16, suggests that there are signs that the Borg may have tentatively released him. Several members of the Federal Reserve’s policymaking committee, according to minutes of the panel’s April meeting, said they would consider expanding efforts to stimulate the U.S. economy if threats to the recovery worsen. The Fed affirmed its intention to keep interest rates at extremely low levels through late 2014, and made two rounds of major bond purchases to inject cash into the economy. While they did not undertake a third round, the minutes suggest that they might if the recovery stalls.
Economic Dangers Ahead!
Regarding the danger of the economy worsening, they cited several factors, including tax increases and spending cuts set to take effect in January that could limit the economic recovery. The possibility of a “sharp fiscal tightening” was acknowledged as a “sizable risk.” It’s academic that austerity measures will only worsen the economy, as the examples in Europe so clearly show.
Sharp cuts are set for the Pentagon and domestic programs as a result of the deal President Obama struck with Congress last year to break an impasse over the federal debt limit. This could amount to as much as 5 percent of the gross domestic product. Lawmakers have until New Year’s Eve to compromise on an alternative deficit-reduction policy. But compromise has not been the hallmark of this Congress, especially with the obstructive filibuster rule which requires 60 votes to end debate on a bill. Without any such compromise, the Fed minutes say that the “sharp fiscal tightening” could occur at the beginning of next year. Fed policymakers were focused largely on what Fed Chairman Ben S. Bernanke has called a “fiscal cliff” looming in 2013, when big changes are scheduled to hit an array of tax and spending policies. Tax cuts put into effect by George W. Bush, as well as a temporary payroll tax holiday for the middle class championed by President Obama are set to expire.
Several top Fed officials expressed concern that “uncertainty about the trajectory of future fiscal policy could lead businesses to defer hiring and investment.” According to economist Allen Sinai, chief executive of the firm Decision Economics:
“In its opinion, the economy is subject to a huge risk in terms of how it does next year if the fiscal cliff happens and Washington doesn’t deal with it in advance,” Sinai said. And if the problem appears politically intractable by the end of this summer “I can almost guarantee you our stock market will have a major sell-off.”
Overall, Fed officials expected economic growth to “remain moderate over coming quarters and then pick up gradually” and the minutes say that exports have been supporting U.S. growth, although further trouble in Europe or a greater slowdown in China could undermine those sales. Fed officials said Europe’s financial problems pose a significant threat to the economy even before the latest concerns about political and financial disarray in Greece.
- Quantitative easing —While short-term interest rates may be zero, and the Fed typically buys only short-term U.S. government debt, it could take a larger role in financial markets by buying long-term government debt, and mortgage-backed bonds to drive down the interest rates on these assets.
- Change expectations about future Fed policy — Investors’ expectations that the economy will eventually recover enough for the Fed to start raising rates again can impact on the economy now. Investors assume the Fed will raise rates enough to keep inflation from rising much above 2 percent. But a wide range of economists, including the IMF’s chief economist argue that if the Fed were to raise its target for inflation for the next decade, this would aid an economy up against the zero lower bound, by persuading investors and businesses that it is not a good idea to sit on cash. Bernanke suggested that the Bank of Japan declare “a target in the 3-to-4-percent range for inflation, to be maintained for a number of years.”
The Collective Responds
Enterprise to Borg!
We call on the Borg to release Ben Bernanke right away, and for the Fed to come to its senses to do whatever it takes to support a recovery. We also call on Congress to get out of the way and let economists take command.