Did The Federal Reserve Prevent Another Recession This Year?

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The U.S. Federal Reserve.

Without quantitative easing, the unconventional monetary policy that the Federal Reserve has been deploying to boost growth, the combined hit of tax increases from the fiscal cliff deal and spending cuts from sequestration would have driven the American economy back into negative growth, according to an analysis by Political Calculations.


The multipliers Political Calculations used deserve some scrutiny. Those are estimates of how spending or tax changes translate into the overall economy. A multiplier of 1, for example, means $1 of policy change translates into $1 of economic impact. While the analysis assumes that government spending has a multiplier of 0.6 or 0.7 and tax increases have a multiplier of 3, the Congressional Budget Office, Mark Zandi of Moody’s, and the European Commission have all found significantly higher multipliers for spending cuts than for tax increases — with the former ranging from 1.67 to a whopping 2.5. Even with different assumptions about the impact of the fiscal cliff and sequestration, however, there would still have been a significant hit to the economy.

This means that the drag on the economy from austerity can be offset by more aggressive action from the Fed, while boosts from stimulus spending can be flattened by tighter policy. It’s not yet clear just how much the Fed can do, but there’s plenty of evidence monetary stimulus has kept state-level austerity, the debt ceiling and budget showdowns, and sequestration from making the post-crash economy even worse.

This doesn’t mean that austerity measures like sequestration aren’t damaging. They have still hurt growth and are devastating programs that serve the least fortunate. And they get worse next year.

Janet Yellen, President Obama’s nominee to take over as Fed Chair next year, is a staunch quantitative easing defender, while conservatives regularly rip into the the policy for threatening inflation.