In his testimony today Ben Bernanke said that the Fed has not yet decided on its leading option in the event that it has to ease policy further. Mark Thoma asks, why?
After all this time, and after all the calls for the Fed to do more, they don’t even know what the leading options are? Bernanke says they are prepared to do more if conditions warrant it, but if there was a sudden disruption in financial markets tomorrow, they wouldn’t even know which policy option to prefer. I expected better than this from Bernanke and the rest of the Fed.
I don’t think that’s fair. I think the Fed knows exactly what it would do if there was a sudden disruption in financial markets tomorrow: liquidity programmes like those we saw during the crisis and then probably asset purchases if they didn’t work.
I think the Fed is still pondering for a few reasons.
Lively stuff. The senators asked some good questions and Mr Bernanke answered them.
First, Mr Bernanke gave a pretty direct response to a question on fiscal stimulus, saying that Congress should maintain short-term stimulus and tackle the medium-term deficit at the same time:
I think the – the right way to combine them, if I may, is to think about the entire trajectory of fiscal policy. I do believe that at the current moment that the large deficits – as unattractive as they are – are important for supporting economic activity, and they were important, also, in restoring financial stability. And so I think they were justified in that respect, and I would be reluctant to withdraw that support too precipitously in the near term.
At the same time, to maintain confidence and keep interest rates low, it’s very important that we have a strong and credible plan for reducing deficits over the next few years. So if we think of this instead of either/or and think of it as a combination and think about the trajectory, the – the best approach, in my view, is to maintain some fiscal support for the economy in the near term, but to combine that with serious attention to addressing what are very significant fiscal issues for the United States in the medium term.
…and he was cautious, as he always is. People shouldn’t expect more: when the Fed chairman testifies to Congress he is speaking on behalf of the institution and the FOMC, so it’s hard for him to go beyond what the FOMC has already agreed.
In that context, the most interesting paragraph was this one:
Of course, even as the Federal Reserve continues prudent planning for the ultimate withdrawal of extraordinary monetary policy accommodation, we also recognize that the economic outlook remains unusually uncertain. We will continue to carefully assess ongoing financial and economic developments, and we remain prepared to take further policy actions as needed to foster a return to full utilization of our nation’s productive potential in a context of price stability.
That is a slightly firmer statement than that in the last FOMC minutes:
It’s easy to get blasé about Brazil: the economy is thumping along; markets are relaxed about the forthcoming election; and nobody seems that excited – or even perturbed – by a further rise in interest rates on Wednesday.
So to wipe away any encroaching holiday stupor, consider this. Brazil probably has the highest real interest rates in the world, by a very fat margin (real interests being central bank rates minus inflation). And, by this evening after the central bank raises nominal rates by an expected 75 basis points to 11 per cent, they will be even higher still.
In the developed world, the historic real rate is about 3 per cent. But today, Japan excepted, real rates are all negative. They are about -1.5 per cent in the eurozone, and a chunky deflation-beating -2 per cent in the US and the UK. The emerging world should have a higher real cost of capital – because of risk, and perhaps lack of savings. Yet today, real rates are mostly negative in the emerging world as well.
Are structured products more accurately valued now than in 2008? If you are an investor or auditor, the Financial Stability Board wants to hear your answer to this question.
First it was Indonesia, then South Korea. Inspired by the strength of an Asian recovery that has left the western developed world standing, regional central bankers are challenging old Western orthodoxies, and are embracing once dreaded capital controls.
Is Thailand about to become the latest country to join them? No. But that hasn’t stopped the new central bank governor from talking about it.
Tarisa Watanagase, the governor of Bank of Thailand, said yesterday that while the bank had no imminent plans to introduce capital controls, many were questioning the conventional thinking on the subject matter.
Capital controls were previously dismissed as something old fashioned, something that interferes with the market mechanism and should not be an acceptable tool of a central bank and I think that idea has changed.
The minutes of the July Monetary Policy Committee meeting, just published, show rate setters at the Bank of England have no view about the Budget’s likely effect on the economy and hence inflation. A 7 to 1 vote to do nothing arose from their inability to form a view arises partly because they are unsure about about the private sector’s response to fiscal tightening and partly because they are unsure about the effect of additional spare capacity on inflation.
The MPC needed more time to analyse the additional fiscal tightening, members complained, bizarrely adding that the effect would depend on the October spending review, even though everyone knows that this review will not change the fiscal stance, but just distribute the pain. Even more bizarrely, they then said they would revisit the issue in the August meeting, when they would, by definition, have no new news on the spending review.
“A key determinant of the medium-term outlook for activity would be the response of private sector spending to news in the Budget and the prospective Spending Review. That would depend in large part upon the extent to which the sharp rise already seen in private sector saving had reflected anticipation of the impact of the fiscal consolidation on future post-tax income. Further evaluation of the impact of the Budget on the outlook for private sector saving would be required as the Committee prepared its projections and analysis for the August policy meeting and Inflation Report. “
In conclusion, the MPC said that an analysis of the Budget was really just too difficult:
“If [the central bank] had raised the value of renminbi in March and raised interest rates in April, financial markets would have been more stable.” This from Japanese media Asahi Shimbun, interviewing Zhou Qiren, a member of the Monetary Policy Committee, an advisory body to the People’s Bank of China.
The short interview transcript is well worth a read. Mr Qiren also points out one obvious consequence of a more flexible, or floating, currency: its value may fall as well as rise. If exports were to start suffering, the yuan would weaken to help the economy, Mr Qiren said. So far, the value of the yuan has strengthened almost imperceptibly: the blue lines on the chart are the tolerance levels for the original value of the yuan on 19 June. (h/t Market Watch)