Bernanke and the Fed’s superpower

Before we get into superpowers, first read Scott Sumner: The Zen Master: Money is too tight.

OK, got that? The Zen Master is telling the Fed to use it’s most powerful monetary tool, the “expectations channel”. Ezra Klein at the Washington Post Wonkblog does a very nice job of explaining how these concepts are applied using the Spiderman metaphor.

(…)The best way to think about the Federal Reserve is that it basically has a superpower. It can create as much money as it wants. Real, American money.

And the Fed doesn’t need anybody’s permission. It’s not like when the president says he wants to do something, like the American Jobs Act, and you have to ask, “What does Congress think?” Or when John Boehner wants to pass something, and you have to ask, “Well, what does Harry Reid think?” Once the Board of Governors decides to move forward, they don’t need 60 votes in the Senate — they just do it. And that makes them incredibly powerful.

But, as Spider Man would say, with great power comes great responsibility. And so the Fed is very cautious in using its powers.

By law, it needs to try to keep unemployment and inflation low. Over the past two years or so, inflation has stayed low, and unemployment has been very, very high. But the Fed has not been doing all that much about it. It’s been hoping the situation would turn around of its own accord, or that Congress and the president would stop bickering and unleash more stimulus — anything so that the Fed didn’t have to further unleash its powers.

But it didn’t happen. And so, on Thursday, Fed Chairman Ben Bernanke said the Fed had finally decided to do something about unemployment. Something big. Something that might actually work.

(…)

If the Fed staff is quietly doing NGDPLT to a 4.5 or 5% target level in the back office, while guiding the FMOC to adjust policy to get back on track, then I believe this is likely to finally get the US economy going. Ezra Klein explains how it actually works.

I think Bernanke’s cautious wording is telling the markets that 2% is no longer the inflation ceiling but the medium term target. The markets seem to be getting that message.