Fed Passiveness Means a Tightening of Monetary Policy

by: David Beckworth
Sigh. The Wall Street Journal had a symposium on monetary policy where it asked six prominent monetary economists what the Fed should do next. Via Mark Thoma we see that five out of six responded with answers that effectively amount to a tightening of monetary policy. Now most of them did not call for an outright tightening of monetary policy, but they did in one form or the other call for passiveness on the part of the Fed. Unfortunately, that is not a great idea right now since inflation expectations and aggregate demand forecasts are falling. Doing nothing to arrest these declines amounts to a tightening of monetary policy.
Ben Bernanke makes this very point in his recent speech at the Jackson Hole conference. There he argued that by failing to stabilize the Fed's balance sheet, the Fed was passively tightening monetary policy. The same goes for failing to stabilize inflation and aggregate demand forecast since these developments affect current spending decisions as well as future ones. Now I respect many of the economists in this symposium so it pains me to say this, but I see no other option. Doing nothing amounts to failure for monetary policy.
Fortunately, one of the participants did make a reasonable suggestion. Here is Vincent Reinhart:

The Fed should promise to purchase government and mortgage-related securities between its regularly scheduled meetings as long as activity is forecast to be subpar and inflation is low or headed down. Purchases of, say, $100 billion every six-to-eight weeks would add up to a number worthy of shock and awe for those with a somber economic outlook.

But those foreseeing a quick return to above-trend growth or expecting a slower trend would similarly be reassured that the Fed would not keep its foot on the accelerator for too long. Most importantly, by linking to economic conditions, the Fed would not be providing an open-ended promise to monetize the federal debt.

For those of us who think the Fed should be doing more, this symposium indicates we still have our work cut out for us in convincing others.