Why Bernanke won’t ease further

July 12, 2010
Paul Krugman's column today is devoted to telling off the Fed for not being aggressive enough about deflation:

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Paul Krugman’s column today is devoted to telling off the Fed for not being aggressive enough about deflation:

Conventional monetary policy, in which the Fed drives down short-term interest rates by buying short-term U.S. government debt, has reached its limit: those short-term rates are already near zero, and can’t go significantly lower. (Investors won’t buy bonds that yield negative interest, since they can always hoard cash instead.) But the message of Mr. Bernanke’s 2002 speech was that there are other things the Fed can do. It can buy longer-term government debt. It can buy private-sector debt. It can try to move expectations by announcing that it will keep short-term rates low for a long time. It can raise its long-run inflation target, to help convince the private sector that borrowing is a good idea and hoarding cash a mistake.

Nobody knows how well any one of these actions would work. The point, however, is that there are things the Fed could and should be doing, but isn’t.

In a blog entry, Krugman explains why he’s so convinced that deflation is a real and immediate problem: monthly price inflation has been falling steadily since January 2008, and has now reached the point at which it’s sometimes negative.

Krugman’s argument is certainly defensible. But I do wonder whether he isn’t essentially asking Ben Bernanke to step up and provide the stimulus that Summers and Geithner have rejected:

Washington seems to feel absolutely no sense of urgency. Are hopes being destroyed, small businesses being driven into bankruptcy, lives being blighted? Never mind, let’s talk about the evils of budget deficits.

Still, one might have hoped that the Fed would be different. For one thing, the Fed, unlike the Obama administration, retains considerable freedom of action. It doesn’t need 60 votes in the Senate; the outer limits of its policies aren’t determined by the views of senators from Nebraska and Maine.

This is the point at which I remind myself that Bernanke is a Republican. He’s not a party-political hack, but he never evinced any substantive disagreement with Alan Greenspan when the two of them were on the FOMC together, and his extraordinary interventions into the realm of unprecedented monetary policy nearly all happened while he was working hand-in-glove with a Republican administration. Now, Krugman is asking him not only to break significantly away from Republican party consensus but to go much further than even Democrats seem willing to go.

Bernanke is a consensus builder, as Krugman knows, having been part of the Princeton economics department during Bernanke’s tenure as its head. And it may or may not make sense for the Fed to ease much more aggressively. But so long as that remains outside the general consensus, Bernanke’s not going to do it.


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