When you think about it, it’s not all that surprising that President Trump wants the Fed to turn the U.S. economy into a “rocket.” Any man who built gilded casino towers from which he profited even after bankruptcy turned his investors into losers won’t scruple at launching the U.S. into the stratosphere before the 2020 election. By 2021, a hard landing could well be a Democratic president’s problem and, if it falls to Mr. Trump, he can just blame the Fed all over again. Given the risks of red-hot monetary policy and the political hazards Democrats will run if Mr. Trump gets what he wants, one might think Democratic candidates would rally to the Fed’s cause. However, those that aren’t trying to find a pillow to hide under are siding with progressive economists who also want the Fed to drop rates and boost its balance sheet. This is a dangerous time and no wonder – when the recovery has worked well only for the wealthiest, why wouldn’t most voters on both sides of the political spectrum want more growth and want it now?
Why are so many people so angry at the Fed? Our latest blog post builds on Fed research to show how little post-crisis policy has done for lower-skilled workers. Another recent one also builds on Fed research demonstrating how unequal American became after post-crisis policy kicked in. Some at the Fed are even perturbed enough to contemplate an “optimal” monetary policy framework that recognizes the impact inequality has on monetary-policy transmission.
But all of these voices are minority ones, if they are even heard at all in the hallowed precincts of the Eccles Building. The Fed has launched a high-profile effort at figuring out why its unprecedented monetary-policy firepower spawned only lackluster GDP growth with negligible inflation or real wage growth. As we’ve seen, real middle-class wealth and income are well below where they were as long ago as 2001. But, is this on the Fed’s agenda? Although the Minneapolis Fed recently held a conference on the distributive effect of monetary policy, it was a highly theoretical affair with seemingly no impact on Fed discussion. Instead, the agenda is replete with arcane theories of how best to set the neutral rate, what new facilities the Fed might need, and whatever happened to the Philips Curve. Great dissertations are sure to follow, but what of actual growth, let alone equity?
The Fed’s real problem is that it thinks the U.S. still has a middle class. If the majority of the population is more or less the same – as it was when most senior central bankers learned their trade in the 1970s – then “representative-agent” models based on middle class “marginal propensity to consume” would work. To translate, if the U.S. has a robust group of households, say, above 25 and below 75 percent of median-income and median-wealth, then about 75 percent of the U.S. population (the middle and upper deciles) would have the resilience with which to roll with punches even as hard as the Great Recession’s. Much of America would then start buying durable goods and new homes when the Fed dropped rates. But, when a very few people have the highest amount of both income and wealth, then 75 percent of the population or even ninety percent under current distributions are unable to spark lasting, shared economic recovery because they’re mired in debt. Conventional policy expects low rates to spur recovery, but rates as low as we’ve had only make inequality still worse.
A struggling middle class mired in a deeply unequal, stagnant economy makes it totally sensible for the President and progressives to bash the Fed – nothing it’s done has made most Americans the better for it. The irony of course is that what the President and progressives want – lower rates and a still more gigantic Fed portfolio – will only make inequality still worse, robust recovery still harder to achieve, and the costs of profligate fiscal policy still more damaging to those who can afford it the least.
The Fed is right to resist pressures now to lower rates to create the economic “sugar high” and it would be better still if it reduced its portfolio to a pittance to end its undue influence on wealth inequality. However, it would have been even better had the central bank not waited for the height of the business cycle to tighten as slowly and tentatively as it has – the only animal spirits it’s unleashed are those ready to go for its jugular.