Here’s John Taylor in today’s Wall Street Journal:
As they meet this week, Federal Reserve Chairman Ben Bernanke and his colleagues will be looking at an economic recovery that has been far weaker than expected. Early in 2010 they predicted that growth in 2012 would be a robust 4%. It turned out to be a disappointing 2%. And as the recovery fell short of their expectations, they continued and then doubled down on the emergency interventions used in the panic in 2008.
The Fed ratcheted up purchases of mortgage-backed and U.S. Treasury securities, and now they say more large-scale purchases are coming. They kept extending the near-zero federal funds rate and now say that rate will remain in place for at least several more years. And yet—unlike its actions taken during the panic—the Fed’s policies have been accompanied by disappointing outcomes. While the Fed points to external causes, it ignores the possibility that its own policy has been a factor.
At the very least, the policy creates a great deal of uncertainty. People recognize that the Fed will eventually have to reverse course. When the economy begins to heat up, the Fed will have to sell the assets it has been purchasing to prevent inflation.
If its asset sales are too slow, the bank reserves used to finance the original asset purchases pour out of the banks and into the economy. But if the asset sales are too fast or abrupt, they will drive bond prices down and interest rates up too much, causing a recession. Those who say that there is no problem with the Fed’s interest rate and asset purchases because inflation has not increased so far ignore such downsides.
The Fed’s current zero interest-rate policy also creates incentives for otherwise risk-averse investors—retirees, pension funds—to take on questionable investments as they search for higher yields in an attempt to bolster their minuscule interest income.
Clearly John Taylor doesn’t like ultra-low interest rates right now. But low interest rates are not a monetary policy. Near-zero interest rates can occur during deflationary monetary policies (Japan), or during monetary stimulus. Everyone from Milton Friedman to Frederic Mishkin to Ben Bernanke tell us that interest rates are not reliable indicators of the stance of monetary policy. So that doesn’t tell us whether Taylor wants easier or tighter money.
Taylor seems to think that growth has been too slow, complaining about only 2% RGDP growth in 2012. That suggests that easier money is needed. But he also complains about QE, claiming it didn’t help the recovery. However the stock market responded very positively to rumors of QE, not once but three times. That suggests QE boosts growth.
Here’s Taylor again, suggesting money is currently easy:
There is yet another downside. Foreign central banks—whether they like it or not—tend to follow other central banks’ easy-money policies to prevent their currency from appreciating sharply, which would put their exporters at a disadvantage. The recent effort of the new Japanese government to force quantitative easing on the Bank of Japan and thus resist dollar depreciation against the yen vividly makes this point. This global increase in money risks commodity booms and busts as we saw in 2011 and 2012.
Obviously Japan desperately needs easier money, its NGDP is lower than 20 years ago. I presume Taylor would agree that deflation isn’t a very wise policy. So it’s a good thing if Fed actions force the BOJ to ease. And of course the world desperately needs an economic recovery, which would obviously boost commodity prices. So I’m not sure why that’s a concern.
Like John Taylor, I’d like to see higher interest rates. Unlike Taylor, I explicitly favor a more expansionary monetary policy. I favor a higher NGDP target, which would raise long term Treasury bond yields. He seems to favor higher interest rates via a tighter monetary policy boosting short rates (the liquidity effect.) In my view that policy would depress long term bond yields to Japanese levels, as markets (correctly) expected a replay of the US in 1937, or Japan in 2000, or Japan in 2006, or the eurozone in 2011—4 attempts to raise short rates above zero—all premature, all 4 attempts failed. They all drove aggregate demand and risk free long term interest rates even lower.
John Taylor says he wants higher interest rates for savers. But only market monetarist policies can deliver higher interest rates to savers. There’s no short cut to recovery—we need faster NGDP growth.
NGDP has averaged just over 4% in recent years. Suppose we had a tighter monetary policy and reduced NGDP growth to 2%. What sort of RGDP growth would you expect? I’d expect about 1%.