Five year after the crash, why are central bankers back in the driver's seat?by Alasdair Roberts / May 28, 2013 / Leave a comment
In May 1932 Franklin Roosevelt was governor of New York State, and seeking the Democratic Party’s nomination for president. At Georgia’s Oglethorpe University, he described the philosophy that would guide a Roosevelt White House. “The country needs bold, persistent experimentation,” Roosevelt said. “Take a method and try it. If it fails, admit it frankly and try another. But above all, try something.”
Experimentation. This is what the Roosevelt administration, working with the U.S. Congress, undertook during the Great Depression. American politicians launched an alphabet soup of programs — NIRA, TVA, AAA, WPA, PWA, REA, and many more. Some succeeded and many failed. But at least the political class had tried something, as Roosevelt insisted. Together, they replied firmly to skeptics who said that democratic institutions were incapable of responding effectively to the economic crisis.
Eighty years later, we are in the midst of another crisis. But politicians in the United States and Britain are not seized with the spirit of experimentation. On the contrary, the prevailing mood is one of caution. In the field of fiscal policy, for example, politicians have largely avoided significant initiatives to stimulate recovery. On both sides of the Atlantic, elected officials have been immobilized by the fear of failure — specifically, by worry that large-scale stimulus programmes might do more harm than good.
Some economists have stoked that fear, arguing that under conditions of uncertainty the best policy is one of caution. The benefits of stimulus are indefinite, Harvard professor Kenneth Rogoff argued in a 2010 column in the Financial Times. At the same time, he added, it would be “folly to ignore the long-term risks of already record peace-time debt accumulation . . . An apparently benign market environment can darken quite suddenly.”
Just about the only domain in which there has been substantial experimentation since 2008 is monetary policy. For example, the Bank of England and the Federal Reserve have purchased massive amounts of government-issued debt, in an attempt to suppress long-term interest rates and stimulate recovery. Central bankers recognise that there are substantial risks associated with this policy, commonly known as quantitative easing. Inflation could spike sharply upward once recovery begins, and asset bubbles could be created as investors search for higher returns.…