Larry Summers is worried about Federal Reserve Chair Janet Yellen.
Here’s Summers (emphasis mine):
“My second reason for disappointment in Jackson Hole was that Fed Chair Janet Yellen, while very thoughtful and analytic, was too complacent to conclude that ‘even if average interest rates remain lower than in the past, I believe that monetary policy will, under most conditions, be able to respond effectively.’ This statement may rank with former Fed chairman Ben Bernanke’s unfortunate observation that subprime problems would be easily contained.”
And while this from Summers might seem like run-of-the-mill punching up at the world’s most powerful economist, invoking Bernanke’s “contained” call ahead of the housing crisis is a serious charge.
In 2007, speaking before Congress, then-Fed Chairman Ben Bernanke said, “At this juncture, however, the impact on the broader economy and financial markets of the problems in the subprime market seems likely to be contained.”
Of course, less than two years later, the failure of both the Fed and the financial markets to contain the fallout from subprime lending nearly toppled the entire global economy.
The entire post-crisis era of economics, in a way, has been defined by attempts to avoid making the next “contained” call. (Consider Yellen’s long discussion of uncertainty in a June speech.)
And so Summers’ charge that, contrary to Yellen’s comments at Jackson Hole, the Fed likely does not have the tools to aid the economy during the next downturn is serious indeed.
Elsewhere in Summers’ post on Tuesday, the Harvard president reiterates much of his long-held view that the US economy is mired in secular stagnation — or a persistent lack of economic growth primarily held back by soft demand — and thinks this view is being underplayed by policymakers.
In short, Summers disagrees with the Fed’s jawboning towards an economy that is getting stronger and can handle higher rates.
But it’s one thing to argue against the Fed’s public communications about future policy. Summers does this all the time. It’s another to say that the Fed is repeating perhaps its most embarrassing historical error.
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