Although theres general consensus that the measures we took in the immediate wake of the crisis were necessary, critics of the Feds policies believe that weve been too accommodative since then, and that after 2010, we shouldve stepped back and let the economy move on its own. I often hear that the economys recovering, so why is the Fed still intervening? Or, in other words: enough is enough.
Ending accommodative policy prematurely would have been a major mistake. In 2010, the economy wasnt yet back on trackin fact, it had barely begun to recover. When we initiated the second round of asset purchases, or QE2, in November 2010, the unemployment rate was around 9 percentonly slightly down from its peak of 10 percent.
The latest round of asset purchasesor QE3was announced in September 2012, when the economy was better, but still well short of healthy. At around 8 percent, the unemployment rate had improved, but was still very high by historical standards, and inflation was running below the preferred 2 percent longer-term goal. In both situations, the very real danger of the recovery stalling and the economy slipping into a state of prolonged stagnation called for additional monetary stimulus.
When you break a leg, you dont just snap the pieces back into place; you leave the cast on until the bone heals. Otherwise, you risk doing even greater damage. And in this case, the economy wasnt ready to walk on its own. Not doing anything, or not doing enough, would just have led to more pain and the need to take even stronger measures down the road.
I was recently in Japan, which offers a real-life example. They shied away from sufficiently aggressive policy and the Japanese economy remained mired in deflationary stagnation for 20 years. Only now are they starting to put more forceful policies into place, and, happily, theyre workingbut those policies are much more forceful than they wouldve been had they been instituted 15 or 20 years ago. In keeping with the patient analogy, you can keep the cast on for a few weeks and let it heal, or you can go without and require extensive surgery later. So if we take the longer view, the Feds actions are in line with people who prefer a light policy touch: were essentially doing less now to avoid having to do more later.
I am aware that not everyone is a fan of the Fed or of accommodative policy. Im not deaf to criticism, and reasonable people disagree on policy all the time. But the bottom line is, it has worked. And the asterisk is that its not permanent. We wont raise interest rates for some time, which is the real marker of tightening policy. However, weve already considerably reduced the pace of our asset purchases, which will likely end this year. Were moving towards normalization, and as the economy continues to improve, well take off the cast; when its able to move on its own, well take away the walking stick. The events of the past several years demanded strong policy action, and we were right to take it. But it doesnt reflect a fundamental shift in our goals or strategy.