Joe Gagnon’s Prescription For Monetary Stimulus

Monetary stimulus please:

First and foremost, the Federal Reserve should announce an additional $2 trillion of asset purchases, including longer-term Treasury bonds, agency mortgage-backed securities (MBS), and foreign exchange. This is more than three times the size of the woefully underpowered quantitative easing of late last year (dubbed QE2) and it should be accompanied by a clear statement that more is forthcoming if the economy continues to underperform. The goals are to push down bond yields and mortgage rates, to push down the value of the dollar in terms of foreign currencies, and to boost stock prices. All of these help households deleverage their balance sheets and encourage consumption, investment, and exports (which would become cheaper for foreign buyers as a result of the dollar’s depreciation). Businesses would need to hire more workers to meet the additional demand.

It is important to recognize that $2 trillion of monetary stimulus is not comparable to $2 trillion of fiscal stimulus. In my previous proposal, I estimated that this policy would boost US GDP by an amount comparable to $500 to $800 billion in fiscal stimulus. However, monetary easing reduces rather than increases our national debt. An additional step the Federal Reserve should take is to stop paying interest on reserves held at the Fed. At a rate of 0.25 percent, these interest payments are a small but unnecessary subsidy to banks and a minor disincentive for bank lending.

I think the efficacy and political acceptability of these kind of actions would be bolstered especially if paired by clearer guidance about what it is the Fed is trying to accomplish. Outlining a future path of nominal GDP or of the price level (and saying which price level indicator they’re using) and stating that the point of the purchases is to achieve the path, and future adjustments will be made in order to make it happen can give people peace of mind. Otherwise we seem to me to be doomed to stay in this whipsaw where the Fed magically appears after market meltdowns the vanishes in time for growth expectations to collapse again. Gagnon also has two other ideas that are non-monetary in nature that I want to discuss elsewhere.

If the issue is that FOMC hawks won’t allow for bold action and that Congress categorically refuses to confirm anyone who would support easing, then in the limiting case Secretary Geithner could us a few platinum coins and conduct executive-led easing.