Christine Lagarde at Jackson Hole. Image by AP.
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Following the Jackson Hole symposium, market attention will be focused on the speeches by Ben Bernanke, Jean-Claude Trichet and Christine Lagarde. Golf used to have its “big three” – Nicklaus, Palmer and Player – and these three officials are clearly the equivalent among economic officials in the world today. With the developed economies apparently still failing to recover from the Great Recession, did they offer a co-ordinated blueprint for action? Not really.
The Bernanke speech disappointed some observers by failing to make the case for further near term easing by the Fed. That seems unfair. The FOMC announced a significant policy shift only three weeks ago, when it provided a forward commitment to keep short rates at exceptionally low levels for the next two years. That was enough to split the committee, and the Fed chairman has extended the next FOMC meeting on September 20th and 21st to allow full discussion of all the options. He clearly felt unable to offer any unambiguous signals before that important meeting.
However, Mr Bernanke is incapable of making a boring speech, no matter how hard he tries. At Jackson Hole, he gave a couple of oblique signals about his own thinking which I read to be dovish.
The first concerns the precise nature of the forward commitment on interest rates. The official FOMC minutes in August said that “economic conditions are likely to warrant exceptionally low levels for the federal funds rate at least through mid 2013″.
As I pointed out at the time, this wording could be consistent with short rates rising to (say) 1-2 per cent, since this would still be “exceptionally low”. Mr Bernanke has now eliminated this possibility, explaining that the short rate will remain “at its current low level for at least two years”, if economic conditions evolve as expected. That means, in effect, zero rates.
The second interesting nuance from the speech concerns Mr Bernanke’s explanation for the slow US recovery from recession. All of the reasons he gives for this slow recovery – all of them, not just some of them – are on the demand side of the economy, not on the supply side. In particular, he mentions the failure of the housing sector to recover, the impact of damaged household balance sheets on consumer spending, and the consequences of stresses in the financial sector.
Meanwhile, on the supply side, the Fed chairman says that he does not expect the long term path for economic growth in the economy to have been damaged by the financial crash. There is no suggestion that the resources which were previously employed in housing and financial services need to remain unemployed indefinitely, and no real suggestion that entrepreneurship has been permanently damaged by the policy responses to the recession.
In plain English, the Fed chairman seems clearly to believe that the supply potential of the economy has continued to grow since 2008 on its previous path, and that a shortage of demand is preventing that potential from being reached in the immediate future. He also points to the danger that a “temporary” rise in unemployment might become permanent by eroding the skills and employability of the work force if it is allowed to persist for too long.
Since Mr Bernanke believes that there is a demand shortage, and that this could eventually begin to damage the supply side too, his speech presumably should have dovish implications. (After all, there was almost no mention at all of inflationary dangers.) However, in sharp contrast to last year, the Fed chairman significantly failed to draw any inferences from this about a further easing in monetary policy. Instead, he once again asked for action from fiscal policy makers, arguing for a long term plan for budgetary consolidation, along with some near term support for housing and the economy.
What about the soon-to-be-retired Jean-Claude Trichet? According to his now familiar refrain, economic growth in the long term is determined by technological and institutional factors, not by monetary policy. The role of the ECB is to provide a low, stable inflation rate, while politicians need to reform Europe’s labour and product markets to boost long term growth. On fiscal policy, the changes agreed at the EU summit in July need to be implemented rapidly. As was the case last year, there was no sign from Mr Trichet that he believed there was any shortage of demand in the eurozone economy, and therefore no indication that recent rises in ECB policy rates would be reversed.
That leaves Christine Lagarde. The new IMF managing director said that “we risk seeing the fragile recovery derailed” and asked for political courage and vision, to implement “bold” and “co-ordinated” policy actions. Specifically, in the US, she agreed with Mr Bernanke’s recommendations on fiscal policy, and on special measures for housing.
In Europe, more dramatically, she asked for a compulsory recapitalisation of the banking system, along with further measures to provide financing for countries embarked on fiscal consolidation. She also recommended a consistently easy monetary policy, in both the US and Europe, apparently differing from Mr Trichet’s approach. And finally she said once again that some emerging economies should boost domestic demand, and permit greater flexibility in exchange rate adjustments.
If there was any consensus from the “big three”, it was that the emphasis now should be on fiscal, not monetary, reforms. Whether or not one agrees with the specifics of the IMF proposal, it does at least amount to a coherent plan which directly confronts many of the problems which threaten to torpedo the weak global recovery. But such plans have been around for a long time, and they have not been implemented yet.
