The Fed announced the results of its year-long monetary policy strategy review yesterday at its virtual Jackson Hole conference. Powell delivered the bad news for savers and retirees.
The Fed will now seek to target an average level of measured inflation rather than a 2% ceiling. The Fed’s justification for this change in policy is it has missed its 2% goal for the last decade.
When measured by a narrow and manipulated price index that uses non-market prices and strips out some of the most important goods a consumer buys, inflation has run below the 2% target. But who’s fooling who here?
The cost of safe and secure retirement income has soared under what we might call the “Bernanke doctrine,” as have asset prices in general.
The Fed can print the money, but it can’t control where that money ends up.
You don’t need to look much further than the price of gold to understand what a decade of zero rates and money printing has done to the dollar. Since Bernanke took over the Fed and instituted an academic approach focused on hitting economic targets down to the tenth of a percentage point level, the price of gold has compounded at 8.3% per year.
In other words, the purchasing power of a dollar has fallen at a remarkable 8.3% per year against hard currency.
The WSJ has more on the Fed’s new half-baked monetary policy strategy. Emphasis is ours.
This is a political minefield because the definition of the inflation time period will always be open for debate. Mr. Powell and future Fed chairs will face pressure to maintain low rates to compensate for some protracted period of low inflation, or because a Senator or Twitter-happy President “believes” inflation will fall below target in the near future.
That increases the economic risk that the Fed might end up looking through inflation until it’s too late. Having effectively admitted it no longer fully understands the relationship between economic growth, employment and inflation, the Fed still promises to decide in real time when its healthy above-target inflation has become dangerous. If the central bank gets this wrong, it could be forced to raise rates much higher, much faster than it would want.
The more glaring problem is the long list of questions the Fed didn’t review. The most important is Mr. Powell’s observation, offered without elaboration Thursday, that business cycles now end in destructive financial crises. The Fed thinks this is a regulatory problem to be solved with stricter capital rules and stress tests.
It might instead ask whether its preference over two decades for “looking through” rising asset prices such as oil, gold and housing to keep rates low is contributing to financial instability instead of economic growth. Without exploring this question, the Fed has adopted a strategy with a built-in bias for low rates. The result is almost certain to be more financial manias, panics and crashes.
There are other unanswered questions. For instance, the Fed now assumes that the economy’s natural rate of growth, and thus its natural interest rate (“r-star” in the lingo) are in a natural decline for demographic or other reasons. Mr. Powell cites this as a justification for the Fed’s new symmetrical inflation target.
Well, what if there’s nothing natural about falling growth because the Fed’s policies are causing it? Research suggests sustained low rates can dent an economy’s growth potential by steering investment to unproductive uses, sustaining zombie companies, rewarding corporate financial engineering instead of capital expenditure, and contributing to asset booms and busts. It’s a shame the Fed has decided to double down on its low-rate, quantitative-easing bets before such a self-examination.
The Fed says its review is a result of careful study, including a national listening tour in which officials met with ordinary Americans. The truth is that it’s a leap into the monetary unknown and potentially a very expensive one.
Read more here.