Cambrdige – At the United States Federal Reserve’s recent and first-ever public press conference, Chairman Ben Bernanke gave a spirited defense of the Fed’s much-criticized policy of mass purchases of US government bonds, also known as “quantitative easing.” But was his justification persuasive?
Most economists viewed his performance as masterful. But the fact that the dollar has continued to slide while gold prices have continued to rise suggests considerable skepticism from markets. One of the hardest things in central banking is that investors often hear a very different message from that which the central bank intends to send.
The Fed, of course, has been forced to turn to “QE,” as traders call it, because its normal tool for fine-tuning inflation and growth, the overnight interest rate, is already zero. Yet US economic growth remains sluggish, and is accompanied by stubbornly high unemployment. QE has been blamed for everything from asset-price bubbles to food riots to impetigo. Everyone from foreign finance ministers to cartoon satirists (check out the video “quantitative easing explained”) to Sarah Palin has ripped into the policy.
Critics insist that QE is the beginning of the end of the global financial system, if not of civilization itself. Their most telling complaint is that too little is known about how quantitative easing works, and that the Fed is therefore taking undue risks with the global financial system to achieve a modest juicing of the US economy.
Whether or not the critics are right, one thing is clear: with the Fed lagging other global central banks in the monetary-tightening cycle, and with rating agencies contemplating a downgrade of America’s credit score, the US dollar’s purchasing power has sunk to an all-time low against the currencies of America’s trading partners.
Bernanke’s defense was robust and unequivocal. He argued that QE is not nearly as unconventional as its critics claim. If one looks at how it has affected financial conditions, including long-term interest rates, volatility, and stock prices, QE looks an awful lot like conventional interest-rate policy, which we think we understand. Thus, concerns about QE’s supposed ill effects are wildly overblown, and there is nothing especially challenging about eventually reversing course, either. Bernanke dismissed complaints about commodity prices and emerging-market inflation, arguing that these phenomena had far more to do with lax monetary policies and overly rigid exchange rates in fast-growing developing economies.
The Fed chairman’s comments come at a critical and sensitive moment. Over the next year or so, the Fed is likely to enter a tightening cycle, raising interest rates on a steady and sustained basis. It does not want to rush, because the US economy is still weak, with first-quarter growth a lackluster 1.8%. But it cannot wait too long, lest inflation expectations drift to a dangerously high level, forcing the Fed to move aggressively – and at the cost of considerable economic pain – to wring inflation out of the system.
In unwinding QE, Bernanke must avoid another landmine, namely an unwelcome collapse in asset prices. Many savvy Wall Street traders are convinced that QE is just the old “Greenspan put” on steroids. The cult of the “Greenspan put” stemmed from the previous Fed chairman’s avowed belief that the Fed should not try to resist a sharply rising stock market, except to the extent that such a market undermines the long-term stability of prices for ordinary goods. But if the stock market collapses too quickly, the Fed should worry about a recession and react aggressively to cushion the fall.
Are traders right? Is QE merely the sequel to the “Greenspan put”? It is certainly the case that today’s super-low interest rates encourage investors to pour funds into risky assets. The Fed probably would argue that it is the job of regulators to make sure that asset bubbles do not induce too much borrowing and an eventual debt crisis, though of course monetary policy has to be in the mix.
Given the sluggish recovery, Bernanke could have gone even further and argued that the Fed is the one who has it right. Other advanced-economy monetary authorities, such as the European Central Bank, might be over-reacting to short term inflation volatility. However, perhaps not wanting to cause problems for his foreign counterparts, Bernanke took a more cautious approach, merely defending the Fed’s policy as the right choice for America.
In defending the Fed’s policy, Bernanke had to be careful not to say anything that might overly alarm investors. Indeed, there is already reason enough for them to be nervous: after all, the Fed’s epic easing of financial conditions must eventually be followed by exceptionally painful tightening. Will the economy be ready when the time comes? Explaining the inevitable shift to tightening could prove a far greater challenge than explaining the exceptional accommodation of quantitative easing.
The Fed must always remember that no matter how calm and rational its analysis may be, it is dealing with markets that can be anything but calm and rational. Precisely because so much emotion has been invested in QE, the psychological effects of returning to normalcy are going to be perilous and unpredictable.
Check out Kenneth Rogoff's other pieces on Project Syndicate here.
Copyright: Project Syndicate, 2011.
We’re not backing down in the face of Trump’s threats.
As Donald Trump is inaugurated a second time, independent media organizations are faced with urgent mandates: Tell the truth more loudly than ever before. Do that work even as our standard modes of distribution (such as social media platforms) are being manipulated and curtailed by forces of fascist repression and ruthless capitalism. Do that work even as journalism and journalists face targeted attacks, including from the government itself. And do that work in community, never forgetting that we’re not shouting into a faceless void – we’re reaching out to real people amid a life-threatening political climate.
Our task is formidable, and it requires us to ground ourselves in our principles, remind ourselves of our utility, dig in and commit.
As a dizzying number of corporate news organizations – either through need or greed – rush to implement new ways to further monetize their content, and others acquiesce to Trump’s wishes, now is a time for movement media-makers to double down on community-first models.
At Truthout, we are reaffirming our commitments on this front: We won’t run ads or have a paywall because we believe that everyone should have access to information, and that access should exist without barriers and free of distractions from craven corporate interests. We recognize the implications for democracy when information-seekers click a link only to find the article trapped behind a paywall or buried on a page with dozens of invasive ads. The laws of capitalism dictate an unending increase in monetization, and much of the media simply follows those laws. Truthout and many of our peers are dedicating ourselves to following other paths – a commitment which feels vital in a moment when corporations are evermore overtly embedded in government.
Over 80 percent of Truthout‘s funding comes from small individual donations from our community of readers, and the remaining 20 percent comes from a handful of social justice-oriented foundations. Over a third of our total budget is supported by recurring monthly donors, many of whom give because they want to help us keep Truthout barrier-free for everyone.
You can help by giving today. Whether you can make a small monthly donation or a larger gift, Truthout only works with your support.