Gesture politics and the Fed mandate

November 17, 2010
proposal from Bob Corker and Mike Pence to abolish the dual mandate is pure gesture politics.

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The proposal from Bob Corker and Mike Pence to abolish the dual mandate is pure gesture politics. It probably won’t even become a bill; if it does become a bill it won’t become law; and even if it does become law it won’t actually change what the Fed does.

What’s more, Corker and Pence simply don’t make any sense to the reality-based community. For instance, Corker wants the Fed to be “focusing singularly on maintaining the value of the dollar,” which sounds for all the world like a third mandate to replace or go alongside the inflation and employment mandates. What happens, for instance, if inflation is low and the dollar is falling? Or if inflation is high and the dollar is rising?

Meanwhile, Pence is declaring that QE2 “will monetize our debt and trigger inflation,” which is kinda the whole point of the exercise, since the Fed is worried that inflation is too low. Giving the Fed a simple inflation target would only make it easier to justify this kind of action when inflation is low and falling.

Neil Irwin gamely tries to come up with an example of where the abolition of the dual mandate might make a difference in practice:

In the first half of 2008, inflation was very high as energy and other prices skyrocketed. Yet the labor market was getting worse, with layoffs mounting. Bernanke and his colleagues cut interest rates to try to address the deteriorating economy, while the European Central Bank, focused as it is solely on inflation, raised interest rates to contain prices.

It’s true that the ECB was late to the rate-cutting party, although it got there eventually with 225bp of rate cuts between November 12 and January 21; in hindsight I’m sure it wishes it had started earlier. But it was hardly aggressively raising interest rates, either: there was a quarter-point hike in June 2007, to 3%, and another quarter-point hike in July 2008, to 3.25%. Meanwhile, the Fed funds rate was at 5.25% as late as September 2007, and came down to the ECB’s 3% level at the beginning of 2008.

But at that point the Fed was already in full-on crisis-fighting mode, trying to get ahead of the rapidly-deteriorating financial situation. Of course it worried about layoffs, but the main reason for the rate cuts was the financial system rather than the unemployment rate.

It’s silly to think that the U.S. central bank won’t step in to help in the face of a financial crisis. But the fact is that Corker and Pence are embarking on their Fed-bashing crusade not because they think they’re being constructive or helpful in terms of setting the parameters of US monetary policy, but rather because they’re playing to the Tea Party wing of the GOP. This is internal Republican maneuvering, and interesting mainly on a political level. As policy, it’s eminently ignorable.

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