The Fed Remains “Blissfully Oblivious”

By at 29 July, 2021, 11:50 am

by Raymond J. Keating – 

The Federal Reserve remains blissfully oblivious as inflation runs hot. In the latest Federal Open Market Committee (FOMC) statement on monetary policy, the Fed made clear that it is undeterred in continuing to run historically loose monetary policy.

As noted in the FOMC statement, the Fed declared, “Inflation has risen, largely reflecting transitory factors.” And later, the FOMC noted that loose money will remain the default in terms of monetary policy, pledging “to maintain an accommodative stance of monetary policy” and keeping “the target range for the federal funds rate at 0 to 1/4 percent.” The FOMC reiterated its intention to keep pumping up the monetary base.

Whether one leans toward believing that the recent jump up in inflation – see SBE Council’s brief – is transitory or something far more troubling, it’s hard to detect even a trace of policy humility from the Fed. Instead, an air of policy arrogance lingers, or is it, again, obliviousness?

Either way, the message is clear: we’ve been running loose money for a long time and intend to continue doing so seemingly without any concerns over inflation.

Even if one firmly believes that the recent spike in inflation is transitory – and a case certainly can be made – it doesn’t mean that caution isn’t warranted. Nor does it mean that loose monetary policy should be maintained.

As noted in the following chart, monetary policy dramatically broke from historic precedence beginning in late summer 2008, and loose money has been careening about ever since – with the monetary base moving from $847 billion in August 2008 to $6 trillion in June 2021.

Source: Federal Reserve Bank of St. Louis, FRED

But as noted in this next chart, the primary achievement of loose money has been to push bank reserves to previously unimaginable levels. For example, bank reserves sat at $46 billion in August 2008. In June 2021, they registered $3.8 trillion.

Source: Federal Reserve Bank of St. Louis, FRED

So, more than 70 percent of the increase in the monetary base over the past 13 years simply has wound up as increased bank reserves. Yet, the Fed actually seems to believe that jacking up the monetary base somehow has aided the economy, during and after the Great Recession, and most recently, during the pandemic. But how that actually worked is, to say the least, unclear. Do unprecedented bank reserves have some magical pro-growth attributes? I don’t think so.

Indeed, given that inflation – that is, an ongoing increase in the general price level – mainly is a monetary phenomenon, loose monetary policy for 13 years now has had the main effect of creating additional risk and uncertainty. And given the recent numbers on inflation, those risks and uncertainties have been magnified.

Indeed, this is the time for some true policy humility by the Fed. How about at least some boilerplate language about maintaining price stability?

Toss in anti-growth tax, regulatory, trade and government spending policies being embraced by the Biden administration and Congress, and concerns multiply. Indeed, loose money combined with higher taxes, increased regulatory burdens, trade protectionism, and wasteful government spending is a policy mix designed to increase risks and uncertainties.

Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council.


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