A guest post by Benjamin Cole
The somnolent United States Federal Reserve is taking large and uncalculated risks in its current policies, possibly inviting another and even more-sustained recession.
Sleeping at the wheel is reckless.
As we saw in the first quarter, the U.S. real economy is hardly a bull, shrinking at a 2.9 percent annual rate. The blame is falling on (regional) bad weather. However, the U.S. had bad weather back in 1985 and 1996, but no 2.9 percent drop in real output.
Can the Fed Wake Up?
Few have connected the Fed’s scaling back its quantitative easing (QE) program with the Q1 plunge. Maybe a direct line cannot be drawn. But surely there is a connection between the deathly pall of Q1 and a Fed that sleepwalks towards its putative goal of 2 percent inflation, while the idea of robust real growth becomes but a daydream of years and leadership gone by.
As noted by many, the Fed after 2008 has been content with just the minimum amount of stimulus to prevent outright deflation—similar in that regard to the Bank of Japan, through most of the island nation’s gloomy and mildly deflationary 1992-2013 years.
Minutes of Federal Open Market Committee (FOMC) consistently reveal the 12-member board had little but inflation scares, even as Americans lost jobs and business went under on a scale unmatched since the Great Depression. Reading the public pronouncements of many of the FOMC members confirms suspicions that many regard real economic growth of secondary concern, if that.
The Fed, as an institution, refuses to wake up.
Yet the gathering risk throughout the last six years has been another recession, and never rising inflation, by any meaningful measure. Indeed, until very recently there has been outright deflation in U.S. unit labor costs, even as inflation-hysterics manically hammered at klaxon with hammers.
In fact—as so often and expertly graphed in this space by Marcus Nunes—the last six years have weakest recovery from a recession since WWII. And (again, as recently noted in this space) sharp contractions in real and nominal GDP—as we saw in the first quarter—are often associated with actual or pending recessions.
By somnolent dithering, the Fed may soon wake up to a catastrophe, and that is a recession when interest rates are already dead and the Fed already publicly committed to snuffing the QE program entirely.
No More Comfy Snoozes at the Fed?
If another recession breaks the nap, the Fed may face a couple egg-face options: 1) Reverse course, admit to a basic and huge policy error, and go back to QE, or 2) Do nothing, go back to sleep, and wait for a few years until a change in leadership will allow “QE with honor.”
Or perhaps (or probably) the Fed bankers will choose another option in a new recession: Assert the Fed has a single mandate, that of zero inflation, and that as an institution it is succeeding brilliantly.
That is the dream of central bankers everywhere!