Have at it.

Photographer: Andrew Harrer/Bloomberg

Go Ahead, Bash the Fed

Ramesh Ponnuru is a Bloomberg View columnist. He is a senior editor of National Review and the author of “The Party of Death: The Democrats, the Media, the Courts, and the Disregard for Human Life.”
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"Bash" is a useful word for journalists looking to stack the deck. We criticize; the people we disagree with "bash." The bashing may take the form of criticism, but the choice of words has primed readers to regard the criticism as stupid and vulgar.

Even Robert Samuelson of the Washington Post, usually as fair-minded as they come, isn't above this temptation. He opened a recent column with the news that "Fed-bashing -- strident criticism of the Federal Reserve -- is back in style." (We're passionate, you're strident.) Whether or not it's in style, severe criticism of the Fed is warranted, and so is a reduction in its power.

Samuelson is concerned about two bills circulating around Congress. One would require the Government Accountability Office to conduct a new "audit" of the Fed, including its monetary decisions, and report the findings to Congress. The other would limit the Fed's discretion in setting monetary policy by having it follow a rule. Samuelson asserts that these proposals have "no obvious advantages." He also thinks they're unnecessary because the Fed is more open than it was in the 1960s and its policies have "contributed to a steady, if unspectacular, recovery."

That the central bank generally works well is now conventional wisdom in much of the press corps. But the Fed doesn't deserve all the praise it gets. Three monetary economists recently looked at its historical record and reached more dour conclusions:

Early in its career, it presided over both the most severe inflation and the most severe (demand-induced) deflations in post-Civil War U.S. history. Since then, it has tended to err on the side of inflation, allowing the purchasing power of the U.S. dollar to deteriorate considerably. That deterioration has not been compensated for, to any substantial degree, by enhanced stability of real output. Although some early studies suggested otherwise, recent work suggests that there has been no substantial overall improvement in the volatility of real output since the end of World War II compared to before World War I.

Nor should its more recent record be lauded. It's true that the Fed could have done worse -- by mimicking the policies of the European Central Bank, for example -- and true as well that some of the Fed's critics wanted it to go in that direction. But Fed officials bear a great deal of responsibility for worsening the financial crisis from which we're supposed to congratulate them for rescuing us. The Fed's monetary policy in 2008 kept credit much too tight. Even after Lehman Brothers collapsed in September 2008, the Fed refused to cut interest rates and expressed concern about the rate of inflation (which has stayed low ever since). Its first post-collapse decision was to institute the contractionary policy of paying interest on excess bank reserves. It engaged in monetary expansion afterward, but not enough to meet its main statutory mandates: The inflation rate ran below its target and the unemployment rate ran above it.

Many possible rules would have performed better. If the Fed had targeted nominal gross domestic product, for example, monetary policy would have been more restrictive before the financial crisis and more expansionary from 2008 onward. Targeting the price level would also have involved a more expansionary policy in recent years: The Fed would've faced more pressure to boost inflation to its target level and make up for past undershooting.

Nobody has devised a rule that would guarantee optimal monetary policy in all situations, and it may be impossible to do so. But the real-world alternative to a rule isn't a central bank with perfect judgment. When debating legislation about the Fed, we should grapple with its actual record and not an idealized one.

"A Fed under political assault adds to uncertainty and subtracts from confidence," says Samuelson. A "political assault" is one way to describe tightening the statutory mandates on the Fed and requiring evaluations of its performance. But leave that aside. How much certainty and confidence does the Fed's relatively unchecked discretion produce? As things stand, stock markets rise and fall based on stray comments by Janet Yellen.

The particulars of any monetary rule, and any legislation, deserve debate. That debate shouldn't be closed off by calls for us to invest a degree of trust in the Federal Reserve that it has done little to justify.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Ramesh Ponnuru at rponnuru@bloomberg.net

To contact the editor on this story:
Timothy Lavin at tlavin1@bloomberg.net