Those who talk most about the Fed tend to be critics of the Fed. If the general public understood the Fed’s real purpose (to fund deficits and act as a lender of last resort), then it would quickly be shut down. The Fed enables hidden theft of the general public through currency depreciation.
Unfortunately, some of the strongest critics of the Fed (and central banking in general) have been making a mistake over the last few years. They say that the Fed has a loose monetary policy. If they were talking in generalities about the Fed’s existence over the last century, then this would certainly be true. If they were talking about the Fed from 2008 to 2014, this would certainly be true.
However, to say that the Fed currently has a loose monetary policy is somewhat deceiving at best. I don’t think they are intentionally trying to mislead people on this subject, but it isn’t accurate.
The Fed ended QE3 in October 2014. From the fall of 2008 until then, the adjusted monetary base rose approximately five fold. This was unprecedented to say the least. Since much of the new money when into bank reserves, coupled with the higher demand for money from the deep recession, consumer price inflation has stayed relatively low. Asset price inflation has not been as low, especially when looking at stocks.
Since QE3 ended nearly three years ago, the monetary base has essentially been flat, or even slightly down. Therefore, you can’t really accurately say that the Fed has a loose monetary policy or that the government is currently paying for its debts through money printing. It just isn’t the case.
On October 29, 2014, the monetary base stood at $3.976 trillion. On August 30, 2017, the monetary base stood at $3.942 trillion. It has slightly decreased in just under three years. The federal government may be running deficits, but it is not the Fed buying the debt right now. Sure, the Fed rolls over maturing debt, but it is not adding anything new in any significant way. It is investors and foreign central banks buying this debt.
If the Fed had a press conference and announced it would no longer buy U.S. government debt ever again, then certainly the bond market would crash and interest rates would spike. The Fed’s presence supports the bond market. But it is misleading to say that the Fed is currently creating new money out of thin air.
Some will point to the ultra low interest rates. Again, the Fed is not directly impacting this. If anything, it has tried to raise rates by increasing the rate it pays on bank reserves. This is a quiet way of continuing to bail out banks. But the Fed’s control of the monetary base is not keeping interest rates down. It is not controlling interest rates through the monetary base because of the huge amounts of excess reserves. It can only control its target rate through other means, such as paying interest to banks.
The Fed’s previous loose monetary policy is still having an impact in keeping rates below normal. But again, it is not because of its current policy. The Fed’s current policy is that of tight money.
Janet Yellen has actually been pretty good in this respect. Then again, Bernanke was pretty good too up until the crash in the fall of 2008. If the economy tanks again, you can be sure that Yellen, or whoever is the Fed chair, will step in with an aggressive policy of digital money printing.
The Fed should have kept a tight money policy in the face of the deep recession in 2008/ 2009. Even if it had just bailed out the banks enough to make depositors whole, we would have been better off than having the massive funding of deficits and the bailouts of car companies and others. We would have far more prosperity today if the Fed had kept a tighter policy since 2008.
The damage was done from 2008 to 2014. Even though the Fed has adopted a better policy since that time, the damage cannot be undone without some kind of pain. The misallocations have to be corrected. The Fed’s current policy makes it more likely that we will see a correction sooner rather than later. It is not like China where the severe misallocations carry on for a couple of decades.
Overall, this is good. We don’t want to be like China with ghost cities. We want resources to be allocated to projects that fulfill the highest priorities of consumers. Only a free market environment can properly allocate these resources in accordance with consumer demand.
In conclusion, the Fed has not had a loose monetary policy since October 2014. The major damage in monetary terms was done prior to this. The federal government continues to do damage all the time by spending too much and regulating too much.
The Fed has adopted the correct policy for the last three years. But there is still a price to pay for the previous loose policy. Unfortunately, when the correction happens to realign resources to their proper uses, the Fed will likely make the same mistake over again. Then we can look forward to QE4.