In terms of theatrical impact, the first performance of the Republican majority in the Senate responding to semi-annual testimony from Fed Chair Yellen was a dud. That is bad news for US monetary reform.
The root cause of the theatrical failure is that a winning strategy for monetary revolution has failed to emerge from the Republican ranks. Instead we hear the old tired messages about “auditing the Fed,” “changing the structure of the FOMC,” and adopting a neo-Keynesian rate-fixing “rule.”
Regrettably, the Senate Republicans and indeed their colleagues in the House are coalescing around an empty audit devoid of ideology and principle. One thinks of the judges in Kafka’s The Trial who scribble inanities on blank pieces of paper. Chair Yellen has won the visual theater by dumping books of the latest Fed regular audit on the table in front of her Republican critics and saying implicitly “you want more of this?” The public does not like accountants!
There was no Senator Bunning moment. Jim Bunning, the Kentucky senator who in voting against the nomination of Professor Ben Bernanke as Fed Chair in December 2009 told him “you are the definition of moral hazard. From monetary policy to regulation, consumer protection, transparency, and independence, your time as Fed Chairman has been a failure.” The new Senate Banking Committee Chair, Richard Shelby, and his Republican colleagues had several chances to make top theater, but they bungled it.
These opportunities included Yellen’s reply to Senator Shelby opposing an overhaul of the FOMC structure “I think the present structure works well, so I wouldn’t recommend changes.” The chair or a fellow senator could have answered:
You have the effrontery, Madam Chair, to tell us that the structure works well. That is despite the Fed having engaged in recent years in a vast monetary experiment which has failed in its central purpose of providing a strong economic expansion — in fact this has been the weakest economic expansion ever following great recession in US history — whilst spreading a dangerous asset price inflation disease throughout the global economy whose deadly end phase US citizens now dread.
Then there was Yellen’s impassioned opposition to the “Audit the Fed” bill. “It would bring short-term political pressures to bear on the central bank and dissuade it from making hard choices needed to keep inflation in check. I really wonder whether or not the Volcker Fed would have had the courage to take the hard decisions that were necessary to bring inflation down — if there had been reviews in real time of Fed policy decisions.”
The proper — and regrettably unsaid — retort was this:
You, Madam Chair, are no Paul Volcker. Throughout your twenty-year career as a top monetary bureaucrat you have never voted against any single policy decision. The policies you helped design and approve were responsible for grave Fed-made monetary instability of which the symptoms have been a sequence of speculative booms and busts. These have sapped economic prosperity and freedom.
In the FOMC meeting of July 1996 you were the lead advocate of replacing the aim of stable prices in the long-run with a perpetual 2 percent inflation target. The adoption of that 2 percent inflation target in a period of rapid productivity growth as was occurring then in the midst of the IT revolution produced tremendous asset price inflation ending in crash and recession. You and your fellow-governors at the Federal Reserve conspired to keep that decision secret until it eventually came out in transcripts published many years later. That is why we need to let the sunshine in through greater transparency and oversight.
Yes, there were some Senate Republican comments on inflation, but unfortunately they were straws in the wind with nothing behind them. Senator Shelby frittered valuable time away in asking Chair Yellen whether an alternative statistic could do a better job of reflecting underlying inflation. Senator Toomey did ask a long-winded question about how 2 percent inflation could be consistent with price stability but left the door open to Chair Yellen giving an even more long-winded standard answer about upward biases in price measurement and the need to avoid deflation where the “zero rate bound” paralyzes monetary policy. There was no chance for a follow-up question.
The senator should have used his time up front to attack Yellen’s advocacy of perpetual 2 percent inflation, for example saying:
Madame Chair, you repeatedly express sympathy for the victims of the weak labor market. But have you ever regretted your role in their misery via having advocated and pursued a policy of perpetual so-called low inflation which has resulted in huge asset price inflation. You talk about the need to avoid deflation. Does this mean you are denying monetary history?
Prior to Fed-made perpetual inflation, prices of goods and services on average fluctuated both downward and upward. Indeed it was the fall of prices to a low level in the business recession coupled with expectations of recovery in the subsequent expansion which caused businesses and households to bring forward spending. The invisible hand thereby accomplished what all your dangerous monetary experimentation has failed to achieve.
You at the Fed have done everything possible to sustain 2 percent inflation following the last Great Recession in defiance of natural rhythm. The result has been the spreading of a powerful global asset price inflation virus featuring bubbles some of which have already burst — including oil and other commodities. Greater busts are likely to follow and we Republicans and ultimately US citizens will hold you responsible. We put you on warning now.
These scenarios, both actual and counter-factual, all highlight that the Senate Republican failure to advance monetary reform this week has been due not just to lack of theatrical talent but more essentially to lack of a compelling script including both a list of indictments and a reform agenda. Central elements in the latter should be legislation which would repeal the “dual mandate” and make monetary stability — characterized by the absence of goods inflation and asset-price inflation — the ultimate aim.
Free-market determination of interest rates with no Fed intervention in long-term rate markets would be the standard set though for full implementation that would require radical monetary system reform which would make the monetary base again a central concern. And in the immediate, the legislation would mandate a radical slim-down of the Fed balance sheet in a way which would not rock the long-term rate markets.
For example, the Fed could be instructed to swap its portfolio of mortgages and Treasury debt with the US Treasury in exchange for floating rate paper (mostly bills) which it then sells to the public. This would force the Fed to shrink its bloated balance sheet and soak up the mass of potentially inflationary excess reserves created by its QE and zero-rate policies.
Meanwhile there are three more semi-annual testimonies to go for Chair Yellen ahead of the November 2016 election. The Republican senators should not fritter away their remaining chances to turn monetary reform into a winning platform in the November 2016 election. If, before then, the present asset price inflation disease turns into its ugly final phase, the Senate Republicans should use rhetoric like this in their final theatrical performance:
Madame Chair, I told you about the wild monetary journey on which you were taking our nation and you did not listen. Do you regret now the misery you have brought your fellow Americans and the damage to prosperity and freedom?