According to the American Farm Bureau Federation, the cost of Thanksgiving dinner this year is up fourteen percent, not counting the sixty percent hike it costs to buy the gas to get to grandma’s. This of course only compounds the political challenge facing the Biden Administration when it tries to confirm its choices for the next iteration of the Federal Reserve Board. However, while inflation is indeed a lightning rod, the macroeconomic building below it is also strung with perilous wiring. This is because the Fed – not Congress – is now a fiscal powerhouse, exacerbating inequality and the slow growth that goes with it no matter the trillions Democrats hope to throw around.
The Fed would have it that there is a pure monetary-policy realm premised on independent macroeconomic thinking while the fiscal hurly-burly is responsible for anything macroeconomic that the Fed does not or cannot achieve. The purity derives, or so the Fed likes to say, from its ascetic “dual” mandate, which allows the Fed only to seek “maximum” employment and price “stability.” But, as both my book and a new paper detail, the black-letter law of the Fed’s express mandate in fact includes a third injunction: “moderate long-term interest rates.”
Further, The Federal Reserve Act is not the only provision of federal law stipulating the Federal Reserve’s goals. The Fed is also covered by the overall statutory injunction to all federal agencies under the Full Employment Act to advance the “general welfare” in concert with an array of factors Congress believes define it.
Thus, the Fed’s dual-mandate defense against all assertions that it exacerbates inequality, powers up asset-price bubbles, or heightens inflation does not pass muster when compared to the Fed’s true mandate. The Fed is in fact responsible under law for minimizing any adverse fiscal impact. Here, it has fallen even farther short of what’s needed because, even as the Fed disavows fiscal impact, its fiscal footprint is enormous.
Why? First, the Fed’s huge portfolio monetizes federal debt and allocates credit, defining how much spending Congress thinks it can float and who benefits thereby. Second, rates as low as low can go redefine money, contributing not just to the rise of cryptocurrency, but also the new role Treasury securities have come to play. These new forms of money variously fuel speculation, not investment, even as they also threaten financial stability – another, vital Fed mandate.
Third, the sheer force of monetary policy consistently outguns fiscal efforts. This is because the Fed is so powerful that its actions – not market fundamentals – drive capital formation, sending it increasingly into real estate and financialized assets, not output-generating physical plants and equipment.
Finally, monetary policy trumps fiscal policy because it works fast and, except when fiscal policy puts dollars directly into pockets, fiscal is slow-moving. We saw this in 2010 when Congress authorized then-unprecedented billions for “shovel-ready” infrastructure that failed meaningfully to move the employment or output needle. I fear we’ll see it again with much in the trillions now flowing into infrastructure and, perhaps, social welfare. We do indeed need better child care and improved educational opportunity, but the kids who benefit from them will face an economy made even more unequal and growing even more slowly by the Fed’s actions when they come of age two decades out.
Judged by the full meaning of its complete mandate, the Fed has thus fallen short in key respects. None of the Fed’s criteria – maximum employment, price stability, moderate long-term rates, the general welfare, or financial stability – is evident. The reason is not limited Fed authority under law, but how monetary policy creates unintended, but powerful, inequality effects that counteract direct fiscal-policy stimulus.
This is not to say that the Fed’s mandate properly understood means the Fed should directly undertake fiscal policy – it’s far too unaccountable for that. Instead, the Fed is so indirectly fiscal that it needs first to recognize its fiscal impact and then to revise monetary policy so that the Fed’s fiscal results no longer counteract the express intent of the fiscal policy determined by Congress and the Administration. Even as the Fed denies it’s also fiscal, its inequality impact is increasingly well understood and less and less tolerated. Unless the new Fed quickly changes course, political fury will force the Fed’s into an overtly fiscal role accompanied by far more political control.