By Steven K. Beckner
(MaceNews) – Even though the U.S. economy’s partial recovery has lately shown signs of faltering in face of renewed anti-coronavirus restrictions, it would be little short of astonishing if the Federal Reserve’s policy making Federal Open Market Committee were to announce any new monetary stimulus initiatives at the conclusion of its two-day meeting Wednesday, having already pulled out an extraordinary number of stops.
It is far more likely that the FOMC will merely keep its already aggressively easy credit stance in place, with no hint of any change for the foreseeable future, although it could continue to tweek its various special credit and liquidity facilities and adjust the composition of its asset portfolio.
That doesn’t mean this week’s meeting is unimportant, however. Aside from doing their usual reassessments of economic and financial conditions, Chairman Jerome Powell and his colleagues will be wrapping up their year-long monetary policy “framework review” and could make some significant departures before too long.
This week’s meeting gives the FOMC a chance to hammer out a new way of conducting, or at least communicating, policy, although an actual announcement may not come until the Sept. 15-16 FOMC meeting. Possibly, Powell could let slip the essentials when he keynotes the Kansas City Federal Reserve Bank’s (virtual) Jackson Hole symposium Aug. 27-28.
Let’s face it, the Fed has already “gone about as far it can go,” as one cowboy sang about Kansas City in “Oklahoma” – and wasted little time doing it. In contrast to what now seems like a relatively sluggish and reluctant response to the 2008 financial crisis, the Fed moved swiftly and aggressively when vast swaths of the U.S. economy were shut down by government order to contain the pandemic.
(Actually, the Fed hasn’t “gone as far as it can go,” but more on that later.)
What has been done is pretty incredible. After cutting the federal funds rate by 50 points to a target range of 1% to 1.25% in an unscheduled March 3 action, the FOMC slashed it all the way down to the 0-25 basis point range less than two weeks later after an emergency Sunday conferene call. The Committee pledged to “maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.”
That wasn’t all, of course. The FOMC jumped with little hesitation to a resumption of large-scale asset purchases (“quantitative easing”), vowing on April 29 to buy Treasury and agency mortgage backed securities “in the amounts needed.” And the Fed, in cooperation with the Treasury Department, rushed to implement 11 special lending facilities, including one that for the first time facilitated corporate bond purchases.
Collectively, asset purchases and lending programs ballooned the Fed’s balance sheet by over $3 trillion to more than $7 trillion. After initially buying as much as $100 billion of bonds per day, the Fed has slowed purchases to $120 billion per month ($80 billion Treasury and $40 billion of agency mortgage backed securities) – a pace which the FOMC endorsed in a June 10 assertion that it would “increase its holdings of Treasury securities and agency residential and commercial mortgage-backed securities at least at the current pace to sustain smooth market functioning, thereby fostering effective transmission of monetary policy to broader financial conditions.”
Because of the reduced pace of asset purchases and increased Treasury cash balances, bank reserves have slipped from their May peak, but are still expected to approach $4 trillion by year’s end.
Fed poliycymakers and, in fact, central bankers around the world had been preparing for such a contingency for years, and were ready, if not eager, to act more preemptively than in the past and to experiment with new tools.
Alongside these unprecedented monetary ventures came an unprecedented fiscal splurge that dwarfed anything done in 2008-9. President Trump signed into law the $2.2 trillion CARES Act on March 27, which included $1200 per person checks; a generous $600 per month federal unemployment insurance payment and billions in other “fiscal stimulus.”
Now Powell and other vocal Fed officials seem on the verge of getting their wish for more heavy debt-funded fiscal support, the only question being whether we get the Republicans’ proposed $1 trillion package or the Democrats’ more grandiose ante of $3 trillion. Something in between seems likely. (They’re “all Keynesians now,” as Richard Nixon once said, although Keynes himself would surely have blanched at the kind of deficit spending now being indulged).
Out, apparently, is President Trump’s wish for a payroll tax cut. In is some form of unemployment benefit extension, despite warnings that it makes it harder for firms to woo back laid-off workers. Another round of $1,200 “stimulus checks” may be in the offing too. Good for aggregate demand, perhaps, during this self-induced national coma, but what is lacking, arguably, is any spur to production and productivity.
The economy regained 7.5 million jobs in May and June, and there have been encouraging reports on housing, industrial production and retail sales, but the pace of hiring now seems to have slowed with payrolls still down 11.4 million from February. So no one at the Fed or on Capitol Hill or in the administration is ready to take their foot off the gas pedal, although the promise of more fiscal action does enable the FOMC to keep its powder semi-dry for now.
Eventually more policy divergences -hawk-dove splits and such – are sure to emerge, but for now the FOMC seems relatively monolithic in its accommodative predisposition. Calls for “normalization” seem far down the road beyond a clouded horizon.
As Powell said at his last post-FOMC press conference, “We’re not thinking about raising rates.
We’re not even thinking about thinking about raising rates.”
The operative word at the Fed, more than ever, is “uncertainty” about when Americans and their leaders will feel secure enough about the virus that they can get back to work. As Powell told the House Financial services Committee on June 30, “The path forward for the economy is extraordinarily uncertain and will depend in large part on our success in containing the virus. A full recovery is unlikely until people are confident that it is safe to reengage in a broad range of activities.”
Or as New York Federal Reserve Bank President John Williams commented the same day, “the economic outlook remains highly uncertain, and it’s going to take considerable time to restore the economy to its full potential.”
Other policymakers have sounded even gloomier – Philadelpha Fed President Patrick Harker predicting a “choppy recovery”; Fed Governor Lael Brainard warning of a “double dip.”
All are agreed that the Fed can’t go it alone and that fiscal support is “vital.”
Not surprisingly, this hell-for-leather monetary and fiscal expansionism has prompted dire warnings.
Some have speculated such gargantuan doses of monetary and fiscal stimulus could sound the death knell for the U.S. dollar as the world’s premier reserve currency. Perhaps, but we’ve been hearing such talk for decades – ever since Nixon took the U.S. off the gold exchange standard in 1971.
The fact is that other Group of 20 countries have also been taking bold measures to combat the contractionary effects of the coronavirus, some of which began with higher debt-to GDP ratios than the United States.
I am reminded of a comment once made by former Dallas Federal Reserve Bank President Richard Fisher – that, nothwithstanding the United States’ financial excesses, it is still “the best-looking horse in the glue factory.”
To be sure, the greenback has weakened significantly against the euro, not to mention precious metals, in recent months, but rumors of the dollar’s demise have ever been exaggerated.
Some doomsayers warn America is headed down the path of Weimar Germany and envision us all pushing around wheelbarrows of depreciated banknotes in a hyperinflatioary nightmare – or, closer to home, following in the steps of once prosperous Venezuela.
True, the Fed has been “running the printing presses” in an electronic sense by creating bank reserves out of thin air at an alarming pace through its massive bond purchases. But reserve creation is not the same as money creation. That occurs when banks activate those reserves and create deposits by lending to meet credit demand to fuel economic growth. So far we’re not seeing much of that. Credit demand has been tepid, reflecting business uncertainty, not to mention failure.
Accelerating money velocity, should it occur, could amplify price inflation. But there too, that’s a worry for another day. So could supply shortages to the extent business shutdowns and supply chain disruptions continue to create bottlenecks. But hopefully that will take care of itself as the economy reopens and trade tensions are salved.
For now, with the consumer price index and other price indicators falling, above-target inflation is the last thing on most people’s minds. (Asset price inflation might be a different matter).
Bear in mind too that much of the emergency Fed loans will be repaid, and that Fed earnings on its loans and bond holdings will re remitted to Treasury and reduce the federal budget deficit.
Having said all that, though, the United States economy and currency are not immune from the longer term workings of the laws of economics. No branch of government or the Fed can afford to be complacent about profligacy.
The Fed will unquestionably face daunting challenges in the years ahead after the breathtaking monetary and fiscal adventures of recent months. Eventually, it will have to get back to more normal operations and rebuild some countercyclical room to maneuver – something it was only starting to do in the last few years after a long stay at the zero lower bound.
For now, the FOMC seems nearly ready to try a new set of procedures after a year-long series of “Fed Listens” events to reevaluate the current monetary policy framework. Nothing is certain yet, but what seems highly likely is a new combination of inflation targeting and “forward guidance” addressing both the level of the federal funds rate and, possibly, the size and pace of asset purchases.
Minutes of the June meeting, which report on discussion of staff research, suggest a consensus was developing around moving away from the old “symmetric” 2% inflation target toward more of a “make-up” or “inflation averaging” strategy – allowing some period of above-target inflation to compensate for past undershooting.
The Fed’s stay at the zero lower bound and/or the continuation of a certain level of QE might well be tied to the achievement – or projected achievement of the inflation objective. That seems to be where the FOMC is headed over the next couple of months.
The FOMC does not seem to be headed toward “yield curve control.” There does not seem to be a lot of enthusiasm for following the example of Australia or Japan, or indeed America’s own post-World War II “even-keeling” experience in that regard. There is even less sympathy for negative rates.
Whatever the exact form of the Fed’s new approach and whenever it is sprung on the public and the markets, the stakes are high. On the success of its new policy framework depend not only the Fed’s own independence and credibility but the financial stature of the United States and status of its currency.
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Contact this reporter: steve@macenews.com.
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