'We're Flying Blind,' Admits Federal Reserve President
by Gary North: Carlo
Ponzi, Alias Uncle Sam
Eric S. Rosengren,
the president of the Boston Federal Reserve Bank, recently gave
a speech at Babson College on November
1. That was a good place to give it. Founder Roger Babson in
September, 1929, warned of a stock market crash. Wikipedia reports:
"On September 5, 1929, he gave a speech saying, "Sooner or later
a crash is coming, and it may be terrific." Later that day the stock
market declined by about 3%. This became known as the "Babson Break".
The Wall Street Crash of 1929 and the Great Depression soon followed."
I plan to highlight three main points about the economic outlook.
I always like to emphasize that my remarks represent my views, not
necessarily those of my colleagues on the Federal Open Market Committee
or at the Board of Governors.
A first point
is this: while it is still early to gauge the full impact of the
Federal Reserve's September monetary policy committee decision
to begin an open-ended mortgage-backed security purchase program,
the program has so far worked as expected. The initial response
in financial markets was larger than many expected. Given that
our conventional monetary tool, the fed funds rate, has hit its
lower bound of zero, we have turned to unconventional monetary
policy. By that I mean policy that attempts to affect long-term
interest rates directly, via asset purchases, rather than indirectly
by setting the short-term interest rate, as in conventional policy.
"Federal Reserve policy has not been working for three years. The
FedFunds rate is just above zero. That is because commercial banks
have $1.4 trillion at the FED in excess reserves. So, the FedFunds
rate is just over zero. In the good old days, the FED pumped in
money to get this rate down. These days, it stays down, no matter
what FED policy is. So, we had to target another rate. Otherwise,
the investing public would conclude that the FED is impotent
kind of like the Bank of Japan has been since 1990."
policy has affected financial markets much like movements of conventional
policy would have. Our use of unconventional policy tools has led
to lower longer-term interest rates; higher equity prices; and,
in a peripheral by-product of lower U.S. rates, exchange-rate effects.
"Believe me. Rates fell. Here is the proof. On September 12, the
30-year T-bond rate was 2.92%. On September 13, the FOMC announced
QE3. The rate went to 2.95% by the close of the day. It was at 3.09%
On September 14. But ignore that. On November 1, it was 2.89%. See?
It was way down: three one-hundredths of a percent.
"So, the policy
had no measurable effect on long-term T-bond rates. But so
what? We want you to think that we are on top of things, steering
the economy in the right direction."
that the policy had goosed the bond market. It hadn't. He said that
it goosed the stock market. For a while, yes.
Is it the FED's
job to manipulate the stock market? It appears so. Otherwise, why
take credit for it?
further easing financial conditions, the Fed's actions appear to
be providing additional stimulus to the household sector
as witnessed recently by higher consumer confidence, and increases
in purchases of interest-sensitive items such as new homes and cars.
What was the
cause? How do we know? He was bluffing. For one thing, the FED's
monetary base shrank for three weeks after the press release. In
early November, it was still below
what it was on September 13.
The FED president
seemed unaware of all this. But he marched forward, oblivious.
concerns about such issues as the looming "fiscal cliff" in the
U.S. and slow growth in many developed countries do appear to be
depressing business spending. Still, our actions are likely to spur
faster economic growth than we would have had without this additional
stimulus and, as you know, economic growth has been painfully
This is a statement
of Keynesian faith in the face of policies that have not produced
much success in four years.
second point is that the increased quantity of bank reserves that
resulted from these unconventional monetary policy actions have
not resulted in inflation above our 2 percent target.
"Banks are not lending. Businesses are not borrowing. The economy
is stagnant. The M1 multiplier remains flat. So, consumer prices
are flat. That is what economic stagnation does in recessions and
statement issued after our last policy meeting highlighted that
we expect to continue the asset purchase program until the economy
experiences significant improvement in labor market conditions.
How forcefully and how long to pursue asset purchases is complicated
by the uncertainty surrounding the effects of unconventional
policies; by the usual difficulty in assessing progress toward our
dual mandate (given the sometimes noisy signals of both inflationary
pressure and labor market conditions); and by the reality that the
amount of stimulus provided by our asset purchases depends in part
on market participants' assessment of the likely size of the asset
"We have no idea when these policies will reduce unemployment. Your
guess is as good as ours. But we get paid for our guesses. You don't."
last complication is the result of the open-ended asset purchase
program, since it does not entail a fixed amount or duration of
purchases; in this respect it is more like conventional policy in
"This can go on for years. Who is to say how long?"
fact, the decision of when to stop easing during a recovery is a
complicated matter even in more normal times, when pursuing conventional
monetary policy through changes in the federal funds rate.
"FedFunds manipulation rate no longer works. We are flying blind."
that the current inflation rate is quite low and is expected to
stay low for several years, we have the flexibility to push for
more improvement in labor markets than if inflation were not so
subdued. My own personal assessment is that as long as inflation
and inflation expectations are expected to remain well-behaved in
the medium term, we should continue to forcefully pursue asset purchases
at least until the national unemployment rate falls below 7.25 percent
and then assess the situation.
"What will policy be after it hits 7.24%? Your guess is as good
think of this number as a threshold, not as a trigger and
the distinction is important. I think of a trigger as a set of conditions
that necessarily imply a change in policy. A threshold, unlike a
trigger, does not necessarily precipitate a change in policy.
"We will conduct a study. Yes, my friends, a study. Trust me."
I think of my proposed threshold as follows. Once the unemployment
rate declines to this level, we would undertake a full assessment
of labor market conditions and inflationary pressures to determine
whether further asset purchases are consistent with the desired
trajectory for reaching our inflation and unemployment mandates
in the medium term. Thus, a threshold precipitates a discussion
and a more thorough assessment of appropriate policy, versus a trigger
which starts a change in policy.
the rest of the article
North [send him mail]
is the author of Mises
on Money. Visit http://www.garynorth.com.
He is also the author of a free 31-volume series, An
Economic Commentary on the Bible.
2012 Gary North
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