LEE: Divine intervention needed at the Fed

Not only should we wish our next Fed chair well. We should pray. Photo: Yellen nomination announcement/AP

WASHINGTON, October 11, 2013 – One shouldn’t be too impressed with anyone President Obama picks to chair the board of the Federal Reserve System. This observation has nothing to do with the probability of a senate confirmation battle. Nor does it have to do with Fed Chair nominee Janet Yellen personally. Rather, it’s because we shouldn’t cheer any appointment short of God Himself to chair the Fed at this point. 

At this point in our current history, there is literally nothing more anyone in that office can do to expedite an economic recovery. This in no way diminishes the importance of the office or its incumbent. That job is and will remain the single most important position in the world from an economic standpoint. 

But after so many years of monetary accommodation, the Fed’s easy money policy is becoming less effective and likely can’t help any further. Bad Fed policy, though, can still hurt the nation’s incipient recovery. 

This is not a matter of opinion. There comes a point when any fiscal tool or strategy reaches the limit of its power. After prolonged usage, to employ microeconomic terminology, anything’s marginal efficacy becomes fully diminished. We’re at that point now with the Fed’s primary tool, otherwise popularly known as Quantitative Easing (QE). 

True, the Fed has a few other tools at its disposal. But they’re Lilliputian compared to the Gulliver-sized tool that’s known in the investment community at least as POMO: the Fed’s permanent open market operations of which the current QE program is the most obvious example. 

Have you checked the rate that you’re getting on your savings account lately? Rather puny, isn’t it? That’s the point. The short-term interest rate that the Fed can directly control is already too low to limbo below. It can hardly get lower or it would be zero, which would be one truly meaningless interest rate. 


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If there’s any country whose negative example we should heed, that’s Japan. Japan has actually been in this kind of predicament far longer than we have. Japanese interest rates have hovered near zero for so long that a previous Governor of the Bank of Japan had actually considered raising interest rates despite the country’s multiple recessions, just to have room to lower them again. This logic is like smacking yourself with a bat because it feels so good when you stop. 

At this point neither Janet Yellen nor anyone else the President might nominate could drop interest rates much lower than they already are. And there’s no overwhelming immediate reason to raise interest rates with the economy still weak. 

Remember the big concern two weeks ago when it was thought that Chairman Bernanke might taper down the scope of the bond buying program at the heart of QE? Tapering the Fed’s bond buying—which does not mean ceasing purchases entirely, only reducing them gradually over time—would have been tantamount to raising interest rates. In fact, professional bond buyers, sometimes referred to as “bond vigilantes,” started dumping bonds, which effectively started hiking interest rates anyway. 

Bernanke called off the taper in September, but it was scary for a while, wasn’t it? So consider the probability that a person newly hired to fill that that job might actually start tapering for real in the not-too-distant future. Not bloody likely after what just happened. 


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The Fed is not merely between the proverbial rock and a hard place. The Fed is between two slabs of adamantium. For you non-comic book fans, that’s the indestructible metal that’s in Wolverine’s skeleton and claws. 

A couple of elections ago, presidential candidate Ron Paul made a big part of his campaign the ending of the Fed and a return to the gold standard. There are strong reasons why operating on the gold standard is superior to central banking, although the space for this article is inadequate for detailing them. (However, if you don’t know and wish to, I invite you to hire the bright students in my International Finance class this semester).

But regarding Paul’s suggestion, the horse is out of the barn as they say. Have you ever heard of any Federal agency shutting down once it’s been set up? Yes you purists, I know the Fed isn’t technically a government agency, but give me a break. Of course it won’t close, Ron Paul notwithstanding, so let’s deal with the reality. 

And that reality is that only God might be able to engineer an interest rate appreciably below where it is now. That would be a rate below the X-axis. Since that’s not conceivable, or even logical, this leaves as the only possibly that the Fed might attempt to meddle in other ways. 

Now that could be truly frightening when we consider previous government attempts to improve the economy. 

Which brings us back to Janet Yellen. If she wins confirmation, I’d advise her by paraphrasing Frederick Douglass, urging her to “Do nothing with us! Your doing with us has already played the mischief.” In other words, attempting nothing new at least won’t risk harming that delicate flower otherwise known as our economy. 

But something tells me she wouldn’t listen, since her background suggests a strong Keynesian influence. 

If it’s ultimately her intent to pursue that path, that’d leave only one thing for us to do: pray for divine intervention.

 


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Michael Justin Lee

Michael Justin Lee from the faculty of finance and the Center for East Asian Studies at the University of Maryland, teaches, speaks and writes at the intersection of global finance and politics (with occasional tangents off on one or the other).

He is the author of “The Chinese Way to Wealth and Prosperity” (McGraw-Hill, 2012). A veteran Chartered Financial Analyst, he served as Financial Markets Expert-in-Residence in the U.S. Department of Labor. He can be followed at www.michaeljustinlee.com

 

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