“The more (does not always mean) the merrier”

Tim Duy has an important post where he worries that the economy does not overcome the ZLB before the next recession. His post builds on David Beckworth´s argument that the Fed did not cause (as popularly thought) the low level of the structure of interest rates, but rather, and this distinction is important, the Fed is responsible for that outcome.

The Fed´s responsibility arises from its lack of adequate action. The charts show that every time the Fed took action “stuff” happened, usually in the form of increases in interest rates, inflation expectations and the stock prices.


The point is that those actions were only that: “actions” and not a well specified “strategy” for monetary policy like, for example, the specification of a NGDP Target Level. As soon as the “actions” petered off, all variables reversed direction.

A very negative consequence of this “on” & “off” sequence is that – and Bernanke confirms – that monetary policy cannot induce the necessary changes in the economy (essentially an initially higher growth rate of nominal spending) on its own, requiring the assistance of fiscal policy. And Duy´s worry leads him to write:

I am getting a little nervous that we will not lift off from the zero bound before the next recession hits. Or maybe the attempt to lift the economy off the zero bound is the trigger of that recession. In either case, I am thinking it would be very bad to be still at the zero bound when that recession hits. So I am wondering what is the equilibrium path that returns the US economy to a normal interest rate environment. Furthermore, can the Fed push the economy to such a path by itself, or is fiscal cooperation required? I don’t have answers to these questions, but my suspicion is that the job would be easier with coordinated fiscal and monetary policies.

In the 1960s, monetary policy was “served” as a complement to fiscal policy. Now, the suggestion is that the roles be reversed, with fiscal policy complementing monetary policy, with the view being “the more the merrier”. But even if that can be construed as a “positive”, it won´t roll today (see this from a group of well-known and well-connected economists).

In my view the problem is Bernanke´s “risk aversion” leading to a succession of “baby steps” being taken when the situation requires bolder moves. And in the end, when the new, slightly bolder, action again falls short the “blame” can always be put on the fact that “fiscal help” was not forthcoming.

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