For decades, the Fed comported itself as an expert witness for deficit hawks on Capitol Hill.
Now, under the leadership of a Republican banker, the Fed is using its technocratic credibility to bolster big stimulus (and marginalize Larry Summers)https://t.co/LyyZxcssS8
— Eric Levitz (@EricLevitz) February 11, 2021
Because he is NOT an Economist
Specifically, he put Jerome Powell in charge of the Federal Reserve, whose background is as an investment banker rather than an economist, and because of this, he has not dedicated himself to fighting invisible mythical inflation preemptively, nor has he attempted to create prosperity by invoking the equally mythical confidence fueled austerity fairy.
It turns out that there is a profession more useless than that of the investment banker, it is that of the economist.
While Trump always found him too hawkish on monetary policy, he has been the most dovish Fed chair in at least 30 years, largely because he is not comparing penis size with other economists:
For most of the past four decades, the Federal Reserve has comported itself as a corroborating witness for deficit hawks on Capitol Hill, and a security system for anti-inflation paranoiacs on Wall Street.
In the late 1970s, stubbornly high inflation taught the central bank that the conflict between its dual objectives — to promote full employment and price stability — was fiercer than it had previously thought. Specifically, the Fed decided that it would need to preemptively cool the economy when unemployment got too low, so as to snuff out inflationary spirals before they took hold. This was because tight labor markets allowed workers to hold their employers hostage to unreasonable wage demands; with no reserve army of the unemployed to draw new hires from, bosses were forced to placate existing staff. Thus, employers ended up overpaying their workers and then trying to compensate by overcharging consumers. Workers, being consumers themselves, responded to such price hikes by extracting even higher wages from their employers, causing employers to enact even more extortionate price increases, setting off a vicious inflationary cycle. Therefore, central banks had to proactively preserve slack in the labor market — both by slowing economic growth through interest-rate hikes when unemployment got too low, and by encouraging Congress to rein in deficit spending lest it spur excessive demand for labor.
But times have changed — and so has the Fed.
Under Jerome Powell, the central bank has brought American monetary policy into belated alignment with federal law and empirical economics. Instead of attempting to preempt high inflation by sustaining a cushion of unemployment, Powell has waited for inflation to actually show itself before deliberately cooling the economy, a posture he has justified by emphasizing the myriad economic and social benefits of maximizing employment.
As a result, the Fed’s role in America’s fiscal policy debates has flipped. This week, Joe Biden’s $1.9 trillion stimulus plan took on some friendly fire from center-left economists Larry Summers and Olivier Blanchard. While both endorsed the necessity of significant stimulus spending, they suggested that Biden’s package was excessively large, and would risk “overheating” the economy — which is to say, the stimulus would risk injecting more demand into the economy than the nation can satisfy, given the size of its labor force and the productive capacity of its capital stock. And when demand outstrips supply, the result is inflation.
On Wednesday, the Fed effectively intervened in this debate on Biden’s behalf. In remarks to the Economic Club of New York, Powell argued that America’s actual unemployment rate is not 6.3 percent (as official data suggest) but 10 percent, once classification errors are accounted for; that it will take “continued support from both near-term policy and longer-run investments” to restore maximum employment; and that had the pandemic not intervened, there is “every reason to expect that the labor market could have strengthened even further without causing a worrisome increase in inflation.” That last statement is key. Not only does it suggest that Powell believes the U.S. economy can support an unemployment rate significantly below the 3.5 percent we saw in early 2020, the statement also implicitly rebukes the Congressional Budget Office’s official estimate of how much more demand the economy can accommodate without overheating. Which is significant, since Summers built his “overheating” argument around the CBO’s (historically unreliable) estimate of that figure.
The Federal Reserve’s authority over monetary policy — and technocratic credibility on questions of spending — gives it considerable power to shape the economic paradigm within which democratic politics operates. In the late 1970s, the central bank used this power to consolidate a reactionary turn in American economic policymaking. In 2021 — under the leadership of a Trump-appointed, Republican investment banker — it is doing its darnedest to consolidate a progressive one.
IMHO, Trump got it right by mistake, but he got this one very right.