Must-Read: Let me note, in agreement with Summers, that, all four times in the past forty years that the Federal Reserve has embarked on a significant tightening cycle, the tightening has revealed significant and dangerous previously-underappreciated financial vulnerabilities.
Given the widespread perception several years ago–and as my friend Larry Summers’s chief internet apologist during the public discussion of whether Barack Obama should nominate him or Janet Yellen to chair the Fed, I know how widespread this perception was–that Larry Summers was more conservative than Janet Yellen, why she now appears much less averse to raising interest rates than he is is something that I find very interesting to note…
: The Fed Looks Set to Make a Dangerous Mistake: “The Federal Reserve’s September meeting [might] see US interest rates go up…
…[and] barring major unforeseen… will probably be increased by the end of the year…. Raising rates in the near future would be a serious error…. [It would] risk… inflation… lower than [the Fed’s target]. More than half the components of the consumer price index have declined in the past six months…. Market-based measures of expectations suggest… the next 10 years[‘] inflation will be well under 2 per cent…. Tightening policy will adversely affect employment levels…. At a time of rising inequality… tight labour markets… [are] the best social programme for disadvantaged workers…. There may have been a financial stability case for raising rates six or nine months ago…. That debate is now moot. With credit becoming more expensive, the outlook for the Chinese economy clouded at best, emerging markets submerging, the US stock market in a correction, widespread concerns about liquidity, and expected volatility having increased at a near-record rate, markets are themselves dampening any euphoria…. [Instead] raising rates risks tipping some part of the financial system into crisis….
Why, then, do so many believe that a rate increase is necessary?…. If rates were now 4%, there would [not] be much pressure to raise them…. Pressure comes from a sense that the economy has substantially normalised… and so the extraordinary stimulus of zero interest rates should be withdrawn…. Whatever merit this view had a few years ago, it is much less plausible as we approach the seventh anniversary of the collapse of Lehman Brothers. It is no longer easy to think of economic conditions that can plausibly be seen as temporary headwinds. Fiscal drag is over. Banks are well capitalised. Corporations are flush with cash. Household balance sheets are substantially repaired…. More plausible is the view that… the global economy has difficulty generating demand for all that can be produced. This is the ‘secular stagnation’ diagnosis, or the very similar idea that Ben Bernanke, former Fed chairman, has urged of a ‘savings glut’…. New conditions require new policies… steps to promote public and private investment so as to raise the level of real interest rates consistent with full employment. Unless these new policies are implemented, inflation sharply accelerates, or euphoria in markets breaks out, there is no case for the Fed to adjust policy interest rates.