Ben Bernanke just wrapped up his speech at The Economic Club of NY.
The general reaction to it? Meh. Eric Green of TD Securities blasted an email to clients titled Bernanke Delivers Nothing New.
The speech itself had the unmemorable title: The Economic Recovery and Economic Policy.
So yeah, there was no razzle dazzle, but actually it was a great, clear framing of the state of the economy.
He correctly identified the central story right now: Which is that the economy seems to be on the verge of a breakout, and yet the Fiscal Cliff remains a major threat which he doesn’t have the power to counteract.
That decent growth is likely to come from housing:
Recently, the housing market has shown some clear signs of improvement, as home sales, prices, and construction have all moved up since early this year. These developments are encouraging, and it seems likely that, on net, residential investment will be a source of economic growth and new jobs over the next couple of years.
He then described the emerging positive feedback loop, whereby rising home prices create looser lending standards, creating more housing activity, more homebuilding, and so forth.
But the threat of austerity is the main concern.
Although fiscal policy at the federal level was quite expansionary during the recession and early in the recovery, as the recovery proceeded, the support provided for the economy by federal fiscal actions was increasingly offset by the adverse effects of tight budget conditions for state and local governments. In response to a large and sustained decline in their tax revenues, state and local governments have cut about 600,000 jobs on net since the third quarter of 2008 while reducing real expenditures for infrastructure projects by 20 per cent. More recently, the situation has to some extent reversed: The drag on economic growth from state and local fiscal policy has diminished as revenues have improved, easing the pressures for further spending cuts or tax increases. In contrast, the phasing-out of earlier stimulus programs and policy actions to reduce the federal budget deficit have led federal fiscal policy to begin restraining GDP growth. Indeed, under almost any plausible scenario, next year the drag from federal fiscal policy on GDP growth will outweigh the positive effects on growth from fiscal expansion at the state and local level. However, the overall effect of federal fiscal policy on the economy, both in the near term and in the longer run, remains quite uncertain and depends on how policymakers meet two daunting fiscal challenges–one by the start of the new year and the other no later than the spring.
This is the story everyone needs to be watching. Everything else is kind of a distraction.
In the Q&A he hit on other interesting points, such as the issue of the Fed paying interest on excess reserves (IOER), a payment that’s commonly said to be an inducement for the banks to do nothing, and just leave money at the bank. Bernanke’s angle is that eliminating IOER to zero would barely stimulate any lending, but that having zero rates could cause mechanical issues in the market, and that keeping IOER allows for an easily tool to tighten policy in the future, simply by raising it.
He also framed his thinking in terms of a clearer rules-based approach to monetary policy, i.e. The Evans Rule, which would instruct the Fed to keep easing until unemployment drops to 7% or inflation rises above 3%. Bernanke seems sympathetic, but also notes the complexity of the economy/monetary policy, and he’s sceptical that such a blunt rule could really capture the situation properly.
His final line of the speech spoke to the moment of promise:
…cooperation and creativity to deliver fiscal clarity–in particular, a plan for resolving the nation’s longer-term budgetary issues without harming the recovery–could help make the new year a very good one for the American economy.
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