Better than nothing

Nothing is what Ben Bernanke is offering in terms of additional stimulus from the Federal Reserve. Joe Gagnon suggests three things the Fed could do:

- Lower the interest rate the Fed pays banks on reserves from 0.25 percent to zero
- Purchase three year Treasury securities in sufficient quantity to achieve a target rate of 0.25 percent (versus 0.90 percent now)
- Establish a facility to allow banks to borrow for terms up to 24 months at an interest rate of 0.25 percent

He claims that

These measures are all within the Federal Reserve's established powers. They pose essentially no risk to the Fed's balance sheet. They would reduce unemployment roughly as much as a 2-year $600 billion fiscal package and yet they would actually reduce the federal budget deficit. And they can be reversed quickly should the balance of risks shift from deflation to inflation.

I'd be interested to know where he got the $600 billion figure - it seems wildly optimistic. Nevertheless, if the Fed did those things it would be better than nothing. I'd add that the Fed could begin charging banks for holding reserves (does anything in the legislation authorizing the Fed to pay interest on reserves require that that interest rate be positive?) as a way of encouraging banks to lend rather than hold idle reserves.

But even so, I think the Fed's ability to influence the economy is very constrained at this point. The Fed's quantitative easing has brought long-term interest rates to historically low levels. Specific intervention in the mortgage and commercial paper markets has brought spreads in those markets down dramatically. Corporate bond spreads are also at normal recession (not normal recovery) levels, but unless the Fed starts buying up corporate bonds in massive quantities there's not much it can do there.

The biggest obstacles to strong recovery now are consumer spending, the housing sector, lack of availability of credit for small businesses, state and local government finances, and employment. This is the job for fiscal policy, not monetary policy.