Friday, August 26, 2011

Analysis: Bernanke highlights September FOMC meeting, Suggests more Fiscal Stimulus

by Calculated Risk on 8/26/2011 11:04:00 AM

Fed Chairman Ben Bernanke made several key points in his speech today:

• Economic growth has been very disappointing, but the FOMC expects growth to pickup in the 2nd half. Bernanke believes some, but not all, of the weakness this year is due to specific events:

Temporary factors, including the effects of the run-up in commodity prices on consumer and business budgets and the effect of the Japanese disaster on global supply chains and production, were part of the reason for the weak performance of the economy in the first half of 2011; accordingly, growth in the second half looks likely to improve as their influence recedes. However, the incoming data suggest that other, more persistent factors also have been at work.
Bernanke also mentioned additional situations and events:
[C]oncerns about both European sovereign debts and ... the controversy concerning the raising of the U.S. federal debt ceiling.
• Although Bernanke didn't outline additional policy choices, as he did in his speech last year, he highlighted the next meeting of the FOMC if growth doesn't improve:
[T]he Federal Reserve has a range of tools that could be used to provide additional monetary stimulus. We discussed the relative merits and costs of such tools at our August meeting. We will continue to consider those and other pertinent issues, including of course economic and financial developments, at our meeting in September, which has been scheduled for two days (the 20th and the 21st) instead of one to allow a fuller discussion. The Committee will continue to assess the economic outlook in light of incoming information and is prepared to employ its tools as appropriate to promote a stronger economic recovery in a context of price stability.
• Bernanke argued that the economy will be fine in the long run, but more fiscal stimulus is needed in the short run:
Notwithstanding the severe difficulties we currently face, I do not expect the long-run growth potential of the U.S. economy to be materially affected by the crisis and the recession if--and I stress if--our country takes the necessary steps to secure that outcome.
Normally, monetary or fiscal policies aimed primarily at promoting a faster pace of economic recovery in the near term would not be expected to significantly affect the longer-term performance of the economy. However, current circumstances may be an exception to that standard view--the exception to which I alluded earlier. Our economy is suffering today from an extraordinarily high level of long-term unemployment, with nearly half of the unemployed having been out of work for more than six months. Under these unusual circumstances, policies that promote a stronger recovery in the near term may serve longer-term objectives as well. In the short term, putting people back to work reduces the hardships inflicted by difficult economic times and helps ensure that our economy is producing at its full potential rather than leaving productive resources fallow. In the longer term, minimizing the duration of unemployment supports a healthy economy by avoiding some of the erosion of skills and loss of attachment to the labor force that is often associated with long-term unemployment.

Notwithstanding this observation, which adds urgency to the need to achieve a cyclical recovery in employment, most of the economic policies that support robust economic growth in the long run are outside the province of the central bank.
Although the issue of fiscal sustainability must urgently be addressed, fiscal policymakers should not, as a consequence, disregard the fragility of the current economic recovery. Fortunately, the two goals of achieving fiscal sustainability--which is the result of responsible policies set in place for the longer term--and avoiding the creation of fiscal headwinds for the current recovery are not incompatible.
• In summary: On monetary policy, the FOMC will consider further monetary easing at the September meeting based on incoming data. There are only a few major economic releases before the next FOMC meeting (August employment, retail sales and CPI), and there are also some high frequency reports that the Fed might watch to see if there is a pickup after the debt ceiling economic freeze (like the Empire State and Philly Fed manufacturing surveys for September). If there is no pickup in activity - and CPI is benign - the FOMC is prepared to act.

Bernanke is arguing strongly for more fiscal stimulus in the short term aimed at helping the unemployed - combined with a long term plan to bring U.S. fiscal policy on a sustainable path. Politically he couldn't argue any stronger for more short term fiscal stimulus.