In anticipation of Ben Bernanke’s speech at the annual Federal Reserve (Fed) conference in Jackson Hole, Wyoming, Paul Krugman expressed sincere doubt that Bernanke would propose any effective strategies in monetary policy to jumpstart the recovery. [To read Paul Krugman’s full comments, see the Conscience of a liberal.]
Krugman was right — no new policies were brought to the table. The promise of keeping the Federal Funds Rate at historic lows into 2013 was reiterated, but no signs of further credit easing were in sight. Although changes in the Fed’s monetary policy were notably absent and no blame was assumed for failing to stop the evolution of excesses in mortgage lending and housing starts, Bernanke does have an immediate solution in mind. [For more information the Fed’s proposal to keep interest rates low, see the July 2011 first tuesday article, The Fed’s plan of attack.]
As the world’s economists waited with bated breath for a dose of monetary medicine, Bernanke waxed academic and began the speech by contextualizing the current economic recovery in terms of historical recessionary cycles. He asserted that garden variety recessions are normal — healthy even — and are at times intentionally created by the Fed to stabilize inflation during periods of bullish growth. [For more information on the cause and purpose of recessions, see the July 2011 first tuesday article, Suspect behavior: why and how the Fed creates recessions.]
However, the Great Recession and this long-plateau recovery is of a notably different breed, according to the Chairman. Not only did the U.S. experience retarded Gross Domestic Product (GDP) growth, but it also suffered a historic financial crisis and a housing market downturn. All three economic challenges converged in 2008 and the confluence of these events has led to this impossibly slow recovery — nothing new here. [For more information on the difference between a recession and a financial crisis, see the July 2011 first tuesday article, The rocky roads: recession and financial crisis.]
Historically, demand in the housing market, coupled with sustainable household debts at the onset of a recession, has proved to be the panacea to U.S. recessionary cycles. In times of economic downturn, the always hungry American consumer slinks quietly into their dwelling, accumulating demand and stockpiling savings until they eventually flood the markets with latent demand and surplus cash, spurring growth and vanquishing the recession.
The current recovery is distinct in that we cannot rely on the consumer to save and subsequently spend since they are suffering from the treble blows of negative equity, unemployment and skintight consumer lending. Worse yet for builders and the economy, a massive excess of housing exists that will take years to consume before any significant construction can logically take place.
Since the Fed is at the end of its proverbial policy rope, what can be done to defibrillate the recovery?
According to the Chairman, strategies for stimulating recovery are “outside the province of the central bank.” He has surrendered, but did not ask for amnesty. Rather, Bernanke puts Congress on notice, and on the spot, chastising them for intentionally causing the recent credit downgrade and their practiced ineptitude with resolving the national debt crisis.
The Fed can only conjure so much monetary alchemy with their ability to create cash. The monetary conditions for stimulating growth and stability have been formed (read: low interest rates), along with all the cash needed to get banks back to lending.
The question remains: why aren’t our financial institutions lending, giving consumers a chance to spend and innovators a chance to realize their potential? The answer is debt. And the Fed has absolutely no power to resolve our debts, be they household or national – once they let it all take place.
first tuesday take: Fringe political agitators, small in number as they are, and supply-side Lake-Wobegon economists are attempting to subsume Bernanke into the political machinery and write-off his advice as empty rhetoric, much as they are doing with Paul Krugman (note: Krugman is banned from the Jackson Hole conferences). With this speech, the Fed Chairman has equipped them with more ammunition by gesturing toward Congress as the culprit in the recovery slow-down.
Let’s not get ahead of ourselves, however, and jump on the lynch-mob bandwagon. Bernanke is an academic, and we know this since he approaches the questions about the economic recovery from a highly rational standpoint without the dogmatic mantras used by politicos. His suggestion that Congress needs to act is not a political maneuver, but is rather born out of simple logic: the recovery is going nowhere because of unsustainable household and national debts, the Fed has no power to create policies to ameliorate these crippling debts, therefore Congress must act.
Bernanke sounds a warning that we can only hope the policy makers will hear: “Without significant policy changes, the finances of the federal government will inevitably spiral out of control, risking severe economic and financial damage.” Not the kind of conditions real estate brokers and agents want to face after four bad years.
What is Congress to do? They can start by easing the burden placed on the underwater homeowners (of whom 2.5 million are in California alone) by mandating principal reductions to the value of the mortgaged home. Take drastic measures to eliminate America’s untenable household debts, put cash back into the consumer’s pocket and maybe the all-powerful invisible hand of the free market will slap the newborn recovery’s bottom and it can gasp its first breath.
re: “The Near- and Longer-Term Prospects for the U.S. Economy” from the Federal Reserve Bank of Kansas City Economic Symposium