Fiscal Cliff Dispatch, day 35: very little movement to report on the stalemate.
There was some important financial news coming out of Washington, however. In fact, there was a very consequential announcement from the Federal Reserve. The central bank said that, as part of its efforts to spur economic growth, it would continue its existing policy of buying about $40 billion in mortgage bonds each month. In a new wrinkle, the Fed said it would buy another $40 billion to $45 billion per month of Treasury bonds. Breaking some new policy ground, the Fed further said that it will continue with these efforts until the unemployment rate falls below 6.5 percent or so long as inflation is below 2.5 percent.
Taken together, these are fairly aggressive actions. But the reaction—from the journalists assembled at Fed chairman Ben Bernanke’s press conference, from political types in Washington, and from the stock market—was a yawn. The markets bounced up a few points on the news and then leveled off.
What gives? The Federal Reserve, after years of extraordinary action and attention, is reassuming its time-honored role of being incredibly important and yet generally ignored. The world has realized that, over the next few months, Congress and the White House will have a much larger impact on the economy’s trajectory than the Fed will.
Time was, the only people who cared about the Fed’s policy arcana were the folks on CNBC and some bond traders. In the Alan Greenspan era, when it became apparent that the central bank would do whatever it took to keep the stock markets high, regular investors began to tune in. But once the financial crisis hit, the Fed assumed a Bieberesque public profile: Greenspan was a celebrity, and everybody hung on his smallest utterances.
Why? Throughout 2008 and 2009, the Fed injected itself into the economy in unprecedented ways, with guarantees, loan facilities, a zero-percent interest policy, and bailouts to markets and individual companies (e.g., AIG, Bear Stearns). As the economy lagged in 2010 and 2011, the Fed responded with innovative and controversial efforts to goose activity—e.g., “quantitative easing,” or printing new money to purchase bonds.
The fact that these actions occurred during a presidential campaign further vaulted the Fed into public consciousness. In 2011 and 2012, every jobs number, every Fed announcement, was politicized. Bernanke, a Republican who worked in the Bush White House, was generally reviled by his fellow GOPers for trying to do his job. Everybody, including people who knew nothing about monetary policy, had an opinion about Ben Bernanke. And where you stood depended on which side of the aisle you sat on.
Soon after announcing his candidacy, Texas Gov. Rick Perry said that the prospect of Bernanke doing something to help the economy would be “almost treasonous” and warned that the mild-mannered economist might suffer physical harm should he enter the Lone Star State.
Much of the political opposition to Bernanke was purely situational, and now that the election is over, it has receded faster than the chairman’s hairline.
Mitt Romney, whose economic team was stocked with former Bernanke colleagues and friends, let it be known that if Romney won, Bernanke would have to go.
The GOP platform itself called for the Fed to be audited and for a commission to look at reestablishing the gold standard.
Much of the political opposition to Bernanke was purely situational, and now that the election is over, it has receded faster than the chairman’s hairline. These days we hear much less from Republicans about the need to return to the gold standard, and nobody thought to ask Rick Perry what he thought of today’s announcements.
But that’s not the only reason for the rising dullness of Fed policy. As time goes on, Bernanke’s controversial efforts are becoming less controversial—in large measure because they have worked. The guarantees and bailouts the Fed put in place in 2008 and 2009 have been unwound without significant cost to the public. Just this week, Treasury recovered the last of the funds it put into AIG. In short, none of the horrible outcomes that Fed critics predicted would result from Bernanke’s policies—the massive inflation, the high interest rates, the debased currency—have materialized. And so fewer people cry wolf, and those who do find their cries are increasingly ignored.
In addition, the Fed’s prominence tends to rise in inverse proportion to the strength of the economy. While the haters refuse to concede the fact, the economy has actually been doing sort of OK this year. The expansion has entered its 42nd month; housing and auto sales are back; the economy is consistently creating jobs; and the low interest rates the Fed engineered are allowing companies, consumers, and homeowners to refinance debt and free up cash to invest and spend.
Finally, like an actor who gets naked in every movie role, Bernanke has lost the capacity to shock his audience with easy-money policies. Few people believe that simply purchasing more bonds will meaningfully alter the course of the economy in the next several months—and with good reason. (Raise your hand if you think it would make a big difference to companies, or the housing market, if long-term interest rates were 10 or 20 basis points higher than they are today.)
These days, the main problem in the economy is demand. Demand from abroad is falling, as exports showed signs of slumping in September. Lower U.S. interest rates won’t counteract slowing growth overseas. Meanwhile, the biggest threat to domestic demand comes from elsewhere in Washington. For the last several years, the Fed has been expansionary while government has been contractionary. In what I’ve dubbed the “conservative recovery,” the government sector—states, cities, the feds—has been cutting jobs every month as the private sector adds them. And now, thanks to the fiscal cliff, we’re about to get a jolt of contractionary fiscal policy.
Whether the outcome is a Thelma & Louise scenario or an agreement that gently raises taxes and cuts spending, fiscal policy is going to depress and suppress economic activity in 2013. Bernanke doesn’t have a role in this process. He’s hesitant to express specific proposals. And he’s generally powerless to counteract the end result. “Clearly the fiscal cliff is having effects on the economy," Bernanke said in his press conference. But a small reduction in already rock-bottom interest rates won’t overcome the fiscal compression that is coming in January.
Federal Reserve policy is exciting when there is volatility in the credit markets, the stock market, or the macroeconomy—as was the case in December 2008. Four years later, however, the volatility is chiefly confined to the political market.