The past three years have shown us the downsides of depending too much on low interest rates, and how a better balance of fiscal and monetary policy can achieve a stronger economy.
In the 2010s, the main economic policy debate was about how to boost the labor market and return inflation to the Federal Reserve's 2% target while avoiding deflation. The Fed settled on a strategy of holding interest rates at 0%, reducing borrowing costs and boosting financial asset valuations throughout the economy. The hope was that this combination would lead to more hiring and investing by companies.
While it was the best option the Fed had at a time when Congress was unwilling to spend money, the impact of the rapid rise in interest rates this year made it clear that the economic activity we got from ultra-low rates wasn't very high quality. That's a validation of some of the criticism of monetary policy in the 2010s. The lesson for the future is that fiscal stimulus rather than monetary policy should carry more of the load when unemployment is high and inflation is low.
The end of 2022 is a good time to revisit the era of zero-interest-rate policy because one could argue that it’s the economic activity spurred by low interest rates that’s currently in recession thanks to the Fed's aggressive increases this year. The housing market rally stalled out as mortgage rates rose to 7% from 3%. Speculative and unprofitable tech companies have seen their stock prices slump as investors steer away from risky assets in favor of bonds that now carry a decent yield. Even at profitable tech companies, investors are punishing management teams that spend a lot on unproven "science projects" that were seen as more attractive when interest rates were low. In the wake of the FTX bankruptcy, cryptocurrencies are increasingly seen as a grift rather than a growing asset class.
So I'm sympathetic to the idea that some of the real estate activity and speculative tech economy was only possible because of artificially low interest rates, but I still don't think investors in those ventures should blame the Fed for any losses they're taking now. Yes, productivity growth was lower in the 2010s than it had been in decades. But the Fed's mandate isn't just to boost profitable or productive economic activity. It's also aiming for full employment and 2% inflation. And to the extent the tens of thousands of tech job cuts recently announced are due to a normalization of interest rates, it stands to reason that the Fed's policy actions in the 2010s helped support those jobs at a time when the labor market still needed support.
Now we can collect all the lessons of the 2010s, the Covid-19 pandemic and the painful adjustment of 2022 to make better policy decisions in the future. In the 2010s we had very little fiscal support from Congress and an extraordinary level of monetary support from the Fed. The boost from the Fed was better than nothing, but the job growth it created doesn't look so great in hindsight and may have just helped the financial markets more than the real economy. If instead we had gotten some of the fiscal measures we later saw during the pandemic — checks mailed to households or expanded unemployment benefits — we likely would have returned to full employment sooner without so much frenzied interest in Silicon Valley and cryptocurrencies.
We've had the opposite problem in 2022, where the fiscal boost in 2020 and 2021 was so large that raising interest rates aggressively hasn't done much to slow down the economy in the aggregate. And monetary policy is a blunt instrument — rather than 7% mortgage rates and a frozen housing market, it would be more effective to slow down some of the less interest-rate-sensitive parts of the economy and maintain a stable housing market. Now we’re swinging from too hot to too cold.
The main lesson for policymakers is that in a recession, monetary policy alone isn't enough to combat the combination of high unemployment and low inflation. The kind of economic boost we get from monetary policy in that environment is limited and of low quality. Apple Inc. was criticized during the 2010s for using its cash for stock buybacks and dividends rather than investing in self-driving vehicles or other technological moonshots, but from the perspective of 2022 their decision looks like the right one. Other tech companies are struggling now to unwind investments that no longer make sense.
The good news is that the past few years have taught us that good fiscal policy can help avoid the combination of high unemployment, too-low inflation and 0% interest rates. The right mix of fiscal stimulus — whether it's checks to households, worker support, infrastructure, tax cuts or something else — will depend on the nature of the downturn and Congress's political will, but there's no reason we should ever have to repeat the high-unemployment, low-inflation economy of the 2010s.
Bloomberg News provided this article. For more articles like this please visit
bloomberg.com.
Read more articles by Conor Sen