With the economy teetering on the edge of another recession, the Federal Reserve’s policymaking Federal Open Market Committee (FOMC) is riven with dissension, agnosticism and uncertainty about its own potency.
Since a bursting housing bubble dragged the country into financial crisis four years ago, the FOMC confidently and aggressively has eased monetary policy. It pulled out the stops, creating innovative new liquidity facilities, scrapping its former resistance to funding investment banks, slashing interest rates to the bone and ballooning its balance sheet.
Going on three years, the Fed has held the federal funds rate near zero and has announced a quasi-commitment to keeping it there "through at least mid-2013." Not satisfied with just cutting short-term rates, it has gone "unconventional," buying $2.3 trillion of securities to push down long-term rates.
It would be hard to argue it’s all gone for naught, because we can’t know how bad things might have been otherwise. But one thing is certain: The Fed is increasingly realizing the limits of what monetary policy can accomplish.
Chairman Ben Bernanke acknowledged as much as he opened the Kansas City Fed’s Jackson Hole symposium in late August. After vowing the FOMC would reconsider a range of easing options at its September meeting and that it was "prepared to employ its tools as appropriate to promote a stronger economic recovery," Bernanke added an important qualifier: "Most of the economic policies that support robust economic growth in the long run are outside the province of the central bank...."
One has to believe Bernanke’s tone was influenced by the three dissents registered against the FOMC’s Aug. 9 decision to extend the zero rate policy for another two years. One of those dissenters, Dallas Fed President Richard Fisher, repeatedly has said the Fed has done all it can do and now "it’s up to the fiscal and regulatory authorities."
Increasingly, Fed officials have pointed to the burden of government on the private sector.
"On the regulatory side, thousands of pages of new legislation have been recently enacted and many new implementing regulations are in the process of being drafted and adopted," says Richmond Fed President Jeffrey Lacker. "Anticipated shifts in regulatory policy appear to have produced a degree of apprehension that has dampened private sector willingness to hire and invest."
Atlanta Fed President Dennis Lockhart says that "in numerous conversations with business contacts across the Southeast," he has "heard a pretty consistent message — there’s just a lot of uncertainty," including uncertainty about environmental, financial and health care regulation.
Uncertainty about tax rates because of record budget deficits and Washington squabbles over how to curb them further discourage hiring and investment.
It all makes for a difficult policymaking climate. Seldom has there been such division in the FOMC ranks. While there are those, such as Chicago Fed President Charles Evans, who are outspokenly for "more accommodation," there are others who adamantly oppose more easing unless the economy deteriorates even further. Then there are the fence-sitters.
In late August, the mainstream Lockhart said that no policy option could be ruled out given economic weakness, but said, "it is important that monetary policy not be seen as a panacea" and warned "pushing beyond what monetary policy plausibly can deliver runs the risk of creating new distortions and imbalances."
Lockhart added that "in more adverse scenarios, further policy accommodation might be called for. But as of today, I am comfortable with the current stance of policy...." He was speaking before a dismal employment report showed no jobs growth in August.
Notwithstanding the uncertainty and dissension, it must be remembered that the Fed has a statutory "dual mandate" to pursue price stability AND maximum employment. That is something Bernanke and his colleagues take very seriously. It was with reference to that dual mandate that the FOMC launched a second round of "quantitative easing" last November, citing rising unemployment and falling inflation.
Unemployment was higher and inflation lower then, which is why Minneapolis Fed President Narayana Kocherlakota said he dissented against the extension of zero rates in August.
But the labor market situation remains intractably deplorable, and that is the side of the dual mandate that matters most to Bernanke and most FOMC members these days — not just the high rate but also the duration of unemployment.
Whatever the reasons for this slough — be they fiscal, regulatory or external — one thing is for sure: Continued evidence that the economy is growing too slowly to reduce joblessness will, in the minds of most Fed officials, virtually force the central bank to keep trying to make things better. "QE3" is a definite possibility.
So far, inflation and inflation expectations are seen as giving the FOMC a permit to keep depressing rates and injecting money. We only can wonder with trepidation about the long-term consequences.
Steve Beckner is senior correspondent for Market News International. He is heard regularly on National Public Radio and is the author of "Back From the Brink: The Greenspan Years" (Wiley).