The Fed and the Ratchet Effect
I apply Bob Higgs’ justly-famous metaphor (or is it an analogy?) to the Fed’s recent announcement that it would replace its maturing MBS holdings with more Treasury debt. My favorite part:
Say what you will about Bernanke, he’s one crafty fellow. (As Bob Wenzel warns, “Don’t play poker against Bernanke.”) Whether through luck or design, he has managed to hand over hundreds of billions of dollars to some of the most powerful people on the planet, and he has maneuvered the Fed into a position to hold $2 trillion in Treasury debt, all without spooking the markets into expecting massive price inflation.
This last point is important: If Bernanke ever announced, “I just talked with Tim Geithner, and he tells me the Fed needs to loan the government $1 trillion to pay for healthcare reform,” then US interest rates would spike. Investors around the world would scream, “The Fed’s monetizing the debt!!”
Yet somehow, Bernanke has managed to implement this exact policy, without anyone blinking an eye. In fact, the usual suspects — on both the left and the right — are upset at the Fed’s timidity.
I’m not sure your position on the issue is as far from Scott Sumner’s as you would suggest here.
I believe Scott Sumner generally argues for the Fed to (credibly) announce intent to create moderate inflation, and that if they did, we would get moderate inflation now, without them having to increase the money supply so much. The fact that the Fed is trying to avoid “spooking the markets” is the timidity that upsets Sumner.
Granted, I expect you still disagree with Sumnar about whether moderate inflation is good. But I think that’s the main disagreement, not the facts of whether they have massively increased the money supply without causing markets to expect inflation.