Eight years ago Ben Bernanke, already a governor at the Federal Reserve although not yet chairman, spoke at a conference honoring Milton Friedman. He closed his talk by addressing Friedman’s famous claim that the Fed was responsible for the Great Depression, because it failed to do what was necessary to save the economy. “You’re right,” said Mr. Bernanke, “we did it. We’re very sorry. But thanks to you, we won’t do it again.” Famous last words. For we are, in fact, doing it again…
We’ve already seen this happen with fiscal policy: fearing opposition in Congress, the Obama administration offered an inadequate plan, only to see the plan weakened further in the Senate. In the end, the small rise in federal spending was effectively offset by cuts at the state and local level, so that there was no real stimulus to the economy. Now the same thing is happening to monetary policy…
The real damage is being done by our domestic inflationistas — the people who have spent every step of our march toward Japan-style deflation warning about runaway inflation just around the corner. They’re doing it again — and they may already have succeeded in emasculating the Fed’s new policy.
For the big concern about quantitative easing isn’t that it will do too much; it is that it will accomplish too little. Reasonable estimates suggest that the Fed’s new policy is unlikely to reduce interest rates enough to make more than a modest dent in unemployment. The only way the Fed might accomplish more is by changing expectations — specifically, by leading people to believe that we will have somewhat above-normal inflation over the next few years, which would reduce the incentive to sit on cash.
The idea that higher inflation might help isn’t outlandish; it has been raised by many economists, some regional Fed presidents and the International Monetary Fund. But in the same remarks in which he defended his new policy, Mr. Bernanke — clearly trying to appease the inflationistas — vowed not to change the Fed’s price target: “I have rejected any notion that we are going to try to raise inflation to a super-normal level in order to have effects on the economy.” And there goes the best hope that the Fed’s plan might actually work…
Fears of the Debt. Fears of deficit. Fears of Inflation. Where were all these fears three years ago when they were running up the debt, running up the deficit, and inflating the Stock Market, the Tech Stocks, the Housing Prices, the Oil Prices? I’m beginning to finally understand why F.D.R. said, "We have nothing to fear, but fear itself."
This is a figure adapted from Krugman’s The return of depression economics and the crisis of 2008 superimposed on the timeline of the other economic indices. The point being that although the classic measure of Inflation [the CPI-U minus Food and Energy – "Core Inflation"] is low, The Stock Market and the Housing Values were [are] massively inflated. The point being that they weren’t looking at Inflation correctly. Just because the Consumer Prices weren’t inflating didn’t mean that the economy wasn’t running on false valuation. In fact, it looks to me as if it still is.
People are holding on to their money tightly. With Consumer Inflation holding flat, there’s no incentive to get money moving. In fact Consumer Inflation is actually declining [deflation], even more reason to hold on to what you got, or maybe let it sit in the markets that remain inflated like Stocks or Property. Krugman’s suggestion seems rational to me. It’s a great time for individuals to save money, because its worth is not decreasing. From the point of view of the economy as a whole, individual saving is a death knell. Krugman wants to reverse that trend by insuring Inflation, jarring people out of their fiscal thriftiness – making them afraid to hold onto money because its value will disappear if they do. Ergo: "The only way the Fed might accomplish more is by changing expectations — specifically, by leading people to believe that we will have somewhat above-normal inflation over the next few years, which would reduce the incentive to sit on cash."
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