The White House is floating a new stimulus, though the Fed chief seemed to rule it out. But does he have any other tools?
Everyone was pretty glum about US GDP growth between March and June, when it was thought to be 2.4%. But due to the wonders of statistical revision, it now turns out that it was only 1.6%. Of course, those out of work do not care what the statistics say because they know exactly what the economy feels like to them now. All the same, these numbers are no doubt confirming people's fears that the dreaded second dip (of on-going depression) is on the way.
Coinciding with the revised GDP numbers, though, Fed chairman Ben Bernanke has announced that he is going to do all that he can, using all the tricks available, to fight deflation. So, what are those tricks and how successful might they be?
Trick number one: continue with quantitative easing (QE). In layman's terms, this means that he will continue to buy securities in the market place in order to keep their price up, and he will create funds (with the press of a button) at the Fed in order to pay for these purchases. This is good old-fashioned money-printing, and the Fed had already made it clear that it is what they intended to keep doing. Their aim with this policy is ensure that bond prices do not fall, because, if they do, private banks will find their asset base falling, their capital adequacy declining; and if one thing led to another, we would all find ourselves back in the financial maelstrom.
Necessary as this policy is, it is not a "stimulus", for this "high-powered money": that the Fed is creating is not, in fact, very high-powered at all; it does nothing to incentivise banks to lend and nothing to stimulate entrepreneurs and consumers to borrow and spend. It is a desperate policy to stop things getting worse.
Trick number two: tell everyone that you intend to keep rates low for a long time. Well, everyone knows already that the Fed is committed to fighting deflation and ensuring that banks' assets do not fall in value too much. A commitment by the Japanese to keeping their interest rates low (at almost zero) has not helped them in the past 10 years.
Trick number three: paying no interest on the private banks' excess deposits of money at the Fed. Well, the Fed is already only paying 0.25%, so cutting to zero is not going to make much difference. If these low returns are not incentivising banks to lend at the moment, this "change" in policy is going to make no difference at all.
Trick number four: targeting higher inflation. The chance of higher inflation would be a fine thing! One can target any number one likes, but if the current policy of printing money and setting policy rates at near zero is having no effect on consumer prices (which are rapidly heading towards deflation territory), then what use is a new target going to be? In fact, I can only imagine that it would be counterproductive; after all, how better to signal the fact that essentially you have no new tools left and are unable to fight deflation than to demonstrate clearly that you have no ability to hit your own targets.
So what does all this mean? It means that unless the Fed plans to print money and actually start buying real housing stock and real goods and services (because that would be a sure way of bringing inflation; probably hyperinflation, in fact), there is nothing left for them to do. Except what they have been doing, which is helping to ensure that the banking system does not implode again.
In other words, monetary policy is, for the time being, over. Either you believe that the private sector will recover in due course of its own accord or you believe that what we really need is a proper fiscal stimulus, the likes of which we are yet to see.
