The Housing Chronicles Blog: Why Fed Chief Bernanke should keep cutting rates

Monday, April 28, 2008

Why Fed Chief Bernanke should keep cutting rates

Business Week Chief Economist Michael Mandel argues that Fed Chief Bernanke should continue cutting rates until the financial markets have stabilized:

We live in a boom and bust world—and it’s not the Fed’s fault. As we wait to see what the Fed does on Wednesday, one thing is clear to me: Bernanke and his crew need to keep cutting rates until the economy and the financial markets stabilize, and not worry about the naysayers.

Since the middle of the 1990s, I’ve followed a very consistent theme in my writings. I’ve argued that we live in a high-volatility, high-growth world. High-risk, high-return: The two things go together.

In the second half of the 1990s, we had the Information Revolution, the Internet, and the tech boom. Then we had the tech bust. All told, the combination of boom and bust moved technology—and the economy—much further and faster than pessimists would have predicted in 1995.

Then in this decade we had the China and India booms, along with the housing boom across much of the world. Followed, of course, by the housing bust—but unless the housing bust leads to a megarecession in the U.S., the combination of boom and bust will have moved the global economy much further and faster than pessimists would have predicted in 2001 or 2002.

These booms and busts are not caused by Fed policy, or indeed central bank actions. Rather, they are the natural working out of increasingly efficient financial markets, combined with the much faster transmission of information and ideas across national borders. And these are good things. Over the past ten years, through boom, and bust, and boom, and bust, global per capita incomes have soared...

It is not the Fed’s role to smooth out the boom and bust cycle. The Fed is not omniscient, it does not know what the “right” level for the economy and the markets are. The best that it can do is cushion the damage of the bust, both for businesses and for consumers.

The last 10-15 years have had plenty of minuses. Consumers took on a lot more debt than they should have, perhaps $3 trillion worth. The U.S. lost a lot more manufacturing than it should have. And the Chinese economy is probably shaping up for the mother of all busts after the Olympics.

But none of this can be blamed on the Fed. The central bank needs to take care of its particular responsibilities—taking action to keep the financial system intact. And if that means cutting rates again and again, that’s what it should do.

No comments: