Tuesday, January 31, 2012

Pushing on a string

The head of the Fed from 1951-1970 was this pinched little man named William McChesney Martin who once considered a career as a Presbyterian minister.  A thorough Calvinist, Martin was a reminder that WASPs can be bankers too.  He was once described as "the happy Puritan."  Unfortunately, it was the puritanism that worries about people having too much pleasure.  His most famous quote about his central banking philosophy was that the job of the Federal Reserve is "to take away the punch bowl just as the party gets going."  Hard to get more Puritan than that.

What saved Martin from being an unmitigated disaster was that his Puritanism made him cautious.  He thought that raising interest rates by 1/4 point was this big deal that should require serious thought by all concerned.  So he didn't do anything rash like run up rates to 21% prime—as Volcker did in 1981.  Martin tinkered with the economy—Volcker crashed it.  In countless ways, the real economy of USA has not recoverd from Volcker's "shock therapy."

And why is this so?  Because as any Producer can tell you, wrecking is easier than building.  Slowing the economy down is easier than speeding it up.  Now it's one thing if the economic slowdown has just been long enough so that people are glad to get back to work, the tools are still there, and the customers haven't gone anywhere.  That was a Martin slowdown.  With the Volcker crash, the factory is closed, the tools are shipped to Malaysia, the people who ran the factory have gone elsewhere looking for work.  To restart economic activity from that wasteland is almost as difficult as redoing the industrial revolution.

So now our glorious Fed, the institution that kept interest rates beyond the ability of the honest Producers to pay from 1981 until 2005 and wrecked vast landscapes of Productive activity, are now discovering that even rates at near-zero will not get the real economy restarted.  This reality has long been a part of monetary thinking—they even have a term for it "Pushing on a string."  Doesn't mean they actually understand the concept. (sigh)

Fed Signals That a Full Recovery Is Years Away
By BINYAMIN APPELBAUM Published: January 25, 2012

WASHINGTON — The Federal Reserve, declaring that the economy would need help for years to come, said Wednesday it would extend by 18 months the period that it plans to hold down interest rates in an effort to spur growth.

The Fed said that it now planned to keep short-term interest rates near zero until late 2014, continuing the transformation of a policy that began as shock therapy in the winter of 2008 into a six-year campaign to increase spending by rewarding borrowers and punishing savers.
The economy expanded “moderately” in recent weeks, the Fed said in a statement released after a two-day meeting of its policy-making committee, but jobs were still scarce, the housing sector remained deeply depressed and Europe’s flirtation with crisis could undermine the nascent domestic recovery.

The Fed forecast growth of up to 2.7 percent this year, up to 3.2 percent next year and up to 4 percent in 2014, but at the end of that period, the central bank projected that the recovery would still be incomplete. Workers would still be looking for jobs, and businesses would still be looking for customers.

“What did we learn today? Things are bad, and they’re not improving at the rate that they want them to improve,” said Kevin Logan, chief United States economist at HSBC. “That’s what they concluded — ‘We’ve eased policy a lot, but we haven’t eased it enough.’ ”

The economic impact of the low-interest rate extension, however, is likely to be modest. Many businesses and consumers can’t qualify for loans, a problem the Fed’s efforts do not address. Moreover, long-term rates already are at record low levels and, like pushing on a spring, the going gets harder as it nears the floor. Finally, the Fed already was widely expected by investors to hold rates near zero well into 2014, limiting the benefits of a formal announcement.

“I wouldn’t overstate the Fed’s ability to massively change expectations through its statements,” the Fed’s chairman, Ben S. Bernanke, said at a press conference Wednesday after the announcement. “It’s important for us to say what we think and it’s important for us to provide the right amount of stimulus to help the economy recover from its currently underutilized condition.” more

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