One has to be struck by Mr. Bernanke's tentativeness at Jackson Hole about the need for renewed Federal Reserve quantitative easing. At a time when all the evidence points to a rapid slowing in the U.S. economy, Mr. Bernanke limits himself to exploring the Fed's options in the event that there were to be a further dramatic slowing in the U.S. economy.
Mr. Bernanke's excessive caution is to be regretted given the mounting risks of both a double dip economic recession and of Japanese-style deflation in the U.S. One would have thought that Mr. Bernanke should be anticipating the fact that the strong support that the U.S. economy has been receiving to date from the fiscal stimulus and from the inventory cycle is now due to rapidly fade. One would also have thought that Mr. Bernanke should be highly concerned about the strongest of headwinds that the U.S. economic recovery now faces from the appalling state of the U.S. labor market and from the ongoing foreclosure crisis.
The Federal Reserve's tentativeness about a new round of quantitative easing is all the more to be regretted since monetary policy is now the only game in town. The option of another round of fiscal stimulus anytime soon would seem to be precluded by the highly compromised state of the U.S. public finances and by the political cycle in the run-up to the November elections.
In mapping out the Federal Reserve's options, Mr. Bernanke is correct to emphasize that in principle there is very much more that the Federal Reserve can still do through aggressive purchases of both public and private sector debt instruments. However, one would have thought that before embarking on private sector debt purchases, the Federal Reserve should actively purchase U.S. Treasury bonds in general and U.S. TIPS in particular in order to drive down U.S. long-term government interest rates. By so doing, the Fed would also be driving down long-term private interest rates, which are linked to government borrowing rates. And it would do so without the associated risk of directly intervening in the private sector debt market.
To be sure, the Federal Reserve would be running risks in purchasing private sector debt instruments in the event that it was forced to do so. However, such risks would need to be weighed against the greater risk of having the U.S. economy find itself mired in a prolonged period of Japanese style deflation.
Desmond Lachman is a resident fellow at AEI.