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View related content: Monetary Economics
Janet Yellen, President Barack Obama’s nominee for chairman of the Federal Reserve, may or may not face a Republican filibuster. She can expect, for sure, to hear some tough criticisms of the Fed’s policies at her confirmation hearings.
Most of the critics think money has been too loose as a result of unorthodox monetary policies such as quantitative easing. They’ve been warning for years that inflation would accelerate in due course. So far no such trend has shown up in the data: Although some goods have become more expensive, prices in general haven’t risen much.
Another criticism that Yellen may face seems to have more evidence going for it: that the Fed’s loose policies have boosted the stock market rather than the economy. The Dow Jones Industrial Average is above its peak from before the financial crisis. The labor market … isn’t. So, advocates of tighter money say, the Fed has been increasing the country’s inequality of income and wealth.
If Yellen is challenged on this point, she shouldn’t dismiss it out of hand — but she should explain why the concern is exaggerated.
The most important argument she should make is that the steps the Fed has taken to loosen money have, in fact, helped the economy. The point can never be proved to everyone’s satisfaction because there’s no way to know how the economy would have done in an alternative universe where the Fed had run a tighter policy.
We do have the example of the European Central Bank, which has been tighter than the Fed. In 2011, for example, the ECB raised interest rates twice. The euro area got a double-dip recession, which the U.S. avoided. Europe’s unemployment rose even as it fell here. The American economy is disappointing, but the alternative of tighter money would probably have been dreadful.
Yellen could also note that during the three recoveries before this one — recoveries in which the Fed wasn’t taking any unorthodox steps to loosen money — stocks improved before the labor market did. The Dow did very well in 1982, 1991 and 2003. In 1982 and 1991, the unemployment rate was still rising, and in 2003 it rose for half the year before settling back to roughly where it was.
It’s also worth remembering that higher inflation doesn’t always help stocks. David Glasner, an economist at the Federal Trade Commission, has shown that while stocks have moved in tandem with inflation expectations in recent years — rising and falling together — they didn’t do so before the crisis.
One way of interpreting this finding is that during normal times, the stock market doesn’t root for the Fed to loosen its policy because that wouldn’t help the economy and thus increase expected corporate profits. In a depressed economy, though, the market starts rooting for looser money because it alleviates the depression.
If that’s right, then the conflict between Wall Street and Main Street that the Fed’s critics posit doesn’t really exist: Looser money lifts real asset values — including the real value of stocks — when it increases expectations of future economic growth. It helps Wall Street, that is, by helping Main Street, but some of the effects show up in stocks first.
Fed officials may have inadvertently obscured this point by emphasizing that quantitative easing, the Fed’s bond-buying program, helps the economy partly because people with more valuable assets (including stocks and houses) spend more money. That may be true, but the expectation of higher incomes in the future is an earlier step in the causal chain.
It’s still possible that the Fed has been increasing inequality. Higher inequality could, for example, result from the higher growth that the Fed seems to have produced, because some measures of inequality fell during the crash. But objecting to the Fed’s policies on that ground would be perverse. Even people who consider inequality a major problem that the government should address generally don’t worry about such cyclical swings. They worry about long-term trends — which have little to do with the Fed.
Is there any good reason for an egalitarian to oppose current Fed policy? George Selgin, a professor of economics at the University of Georgia, raises one. Some Wall Street firms, he notes, have made a killing because of the particular trades the Fed has made to carry out quantitative easing. He would have preferred that the Fed not buy mortgage-backed securities.
But that isn’t what most of the Fed’s critics have in mind, and it isn’t an argument in principle against monetary easing. So though some senators may decide to use Yellen’s confirmation hearings to portray the Fed as the servant of Wall Street, she shouldn’t be defensive.
(Ramesh Ponnuru is a Bloomberg View columnist, a visiting fellow at the American Enterprise Institute and a senior editor at National Review.)
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