The elections have passed, and the House of Representatives will now be securely controlled by the Republicans while the Senate will continue to be narrowly controlled by the Democrats. These changes might not seem important to monetary policy, but the Republicans have taken control of the house, and regained some power in the Senate under the banner of fiscal austerity. A split chamber might lead to gridlock, but I would like you to consider what fiscal austerity might mean for monetary policy.
Alan Greenspan, former Chairman of the Federal Reserve Board of Governors recently was quoted as saying extensions of the Bush era tax cuts could be “disastrous” if not offset by spending cuts elsewhere. Back in 2003, Greenspan warned that these same tax cuts would lead to large deficits. This is the same Alan Greenspan that has been vilified for leaving interest rates “too low for too long” while heading the Fed, and who supported tax cuts back in 2001 (also notice how Greenspan incorrectly predicted that the recession would not occur in 2001).
Ben Bernanke, the current Chairman of the Board of Governors, recently was quoted as saying:
The importance of fiscal austerity has a role in the effectiveness of monetary policy. I would like you to consider the possibility that the Fed is conducting QE2 under the expectation that these measures will take some time to implement, and that there is now a very slim possibility of further fiscal stimulus. If the legislature extends the tax cuts for another two years or more, slashes spending, and trims aid to states, monetary stimulus may be the only tool left in the arsenal to keep our economy from encountering another recession.
Questions you might try to answer:
- Do you believe that QE2 is the right thing to do considering the political environment?
- Given that the new Speaker of the House is heavily supported by the financial services industry, do you believe that expected “de-funding” of financial regulation would allow for better economic growth?
- How do fiscal austerity measures impact the Fed’s ability to conduct effective monetary policy in this environment where short-term rates are already at the zero-bound.
Remember to keep a monetary policy angle to your comments. Also, I’m not sure where it comes from, but please refer to the “Federal Reserve” as the Fed, not the FED.