Show Some Rooseveltian Resolve (And Do It Now)

Summary

• People keep asking me what the Fed should do. I've been answering that question for 11 years, and my answer is always the same.
• Stop paying IOER right NOW.
• Switch to level targeting NOW.
• Ask Congress for more tools NOW.
• The Fed should buy as many Treasuries (and MBSs) right NOW as required to raised the expected price level two years from today to a level 4% higher than today.

People keep asking me what the Fed should do. I've been answering that question for 11 years, and my answer is always the same:

1. Stop paying IOER right NOW. It was a mistake from the very beginning in October 2008. It's a contractionary policy, as even the Fed acknowledges. Why would you want a contractionary monetary policy in October 2008? Why would you want a contractionary monetary policy today?
2. Switch to level targeting NOW, at least during the crisis and recovery. Preferably NGDP level targeting, but more realistically price level targeting.
3. Ask Congress for more tools NOW. One possibility is negative rates, but I much prefer the Fed asking Congress for the right to buy a much wider range of assets. Congress should give the Fed this tool NOW. Even if the Fed doesn't ask for it.
4. The Fed should buy as many Treasuries (and MBSs) right NOW as required to raised the expected price level two years from today to a level 4% higher than today. Not gradually; buy them NOW. Only buy other assets when you run out of conventional ammunition (which is not likely to happen).

Notice that I didn't even mention cutting interest rates. Interest rates are not monetary policy. If the Fed does what I suggest, then interest rates might well increase. Ten-year bond yields are much higher in a world with expectations of robust nominal growth than they are in the world we actually live in right now.

The coronavirus has no bearing on the question of whether the Fed can raise inflation expectations (core PCE) to a total of 4% over 2 years (i.e. 2%/year). It's simply not an issue. The Fed could create 20% inflation if they wanted to. What the coronavirus problem does do is make a short recession likely this summer, even in a world where prices are expected to be 4% higher two years from today. But with this policy in place, the hit to employment should be relatively mild. Maybe just "mini-recession" levels. If not, then I shudder to think what might happen to animal spirits, and then investment, and then the labor market.

P.S. David Beckworth has a very good post that makes some similar points. The biggest difference is that David suggests a fallback provision where the Fed would also be able to use a fiscal facility in a crisis. That would probably work, but I believe it would be much easier to get Congress to give the Fed the option to buy a wider range of assets than to get them to allow the Fed to operate a fiscal facility. Congress jealously guards its control over the distribution of fiscal largesse. Also, Dems and the GOP would not agree on the appropriate level of progressivity.

Original Post

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

Comments

[dougkitchen]

Too late for policies that should have been put in place long ago. Only option now is buying assets. Buying treasuries signals deflation. Stocks and corporate debt asks for socialism. Gold is the only free market option.
Better to decide now than at 1500 for the S&P.

[Blue Sky & Sunshine]

Why not just raise taxes on the top 1% by $2 trillion/ yr. Use the 1st $trillion to eliminate the federal deficit. Use the 2nd $trillion to reduce Middle Class taxation of all types. Combine with some reasonable protective trade measures to assure most wealth stays in country. Results: Enormous and sustained demand for goods and services. Vibrant and growing Middle Class. Vastly improved corporate profitability, and all the inflation we can tolerate. Easy peasey