Where to go from here
It has been almost eight years since the Federal Reserve began the unconventional policy known as “quantitative easing,” with the goals of stemming financial panic and restarting economic growth. And it has been seven years since then-Federal Reserve Chair Ben Bernanke assured the public, in a Wall Street Journal op-ed, that the Fed had thoroughly studied the matter and could eventually unwind the massive bond-buying program “in a smooth and timely manner,” without setting off inflation.
Yet last week the Federal Reserve announced that, for the second quarter in a row, it would pass up an opportunity to raise interest rates, a crucial step in the monetary policy normalization plan that the Fed adopted when the current chair, Janet Yellen, succeeded Bernanke two years ago.
Obviously it’s much easier for a central bank to get into unconventional policy than to get out of it. This is not necessarily a criticism; to the contrary, Bernanke’s policies contributed mightily to the recovery, now seven years old, that has begun to produce not only jobs but also rising incomes. Furthermore, the current Fed’s reluctance to normalize— tighten—monetary policy reflects a decidedly benign fact: There is practically no inflation to fight and little risk that it will get out of hand in the near future. The Fed still has time.
Less reassuring, however, is the fact that there is so much disagreement among the experts on the Fed’s Open Market Committee, three of whom dissented from the decision to postpone a rate hike. Those in favor of a rate increase cited the potential for prolonged low rates to sow instability, whether through a bubble in commercial real estate, damaged insurance company finances or some other means. Yellen described the group as having “struggled” to make sense of the data and chart a course for the next few months.
Meanwhile, before the Fed’s announcement, Bernanke published an extended blog post noting that new research suggests it might be better not to shrink the Fed’s balance sheet back to pre-crisis dimensions after all. “Maybe this is one of those cases where you can’t go home again,” he remarked.
When even central-banking experts don’t seem sure what to do next, what should the rest of us hope for? Maybe a U.S. economic policy that depends less on its central bank. The Fed did help restore growth, but at tepid rates; in fact, the Fed’s new consensus forecast is a mere 2 percent annually through 2019, due in large part to stubbornly low productivity. That could change, however, if the next Congress and president enact pro-growth tax and spending policies, as well as overdue structural reforms. Only then can the economy truly be said to have found its exit strategy.