Monetary policy, conducted by the Federal Reserve Board (Fed) in the U.S., should be focused on the maintenance of liquidity and price stability and not on other social objectives. The Fed should restrict the use of monetary policy to maintain full employment to exceptional circumstances. The Fed should not attempt to maintain interest rates at artificially low levels for extended periods of time. The federal government should use tax and spending policies to offset the effect of recessions on employment. During periods of near full employment, the federal budget should be balanced. We support maintaining an infrastructure bank of fully vetted projects that can be started during periods of declining GDP.
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The principal role of monetary policy ought to be the maintenance of liquidity and price stability. Interest rates should not be kept artificially low for extended periods of time. This was a major contributing factor to the financial crisis in 2008 and to the current uptick in inflation. The Federal Reserve Board’s ability to act as an economic stabilizer has been permanently compromised by the political pressure to keep interest rates low during all periods. This has been disastrous for small savers who are in no position to invest in equity markets.
The portion of the Federal Reserve Act that tasks the Fed with pursuing full employment should be revised to limit this role to exceptional circumstances. We should certainly not be adding additional social objectives to the the Fed’s mandate.
Fiscal Policy, a Balanced Budget Amendment, and an Infrastructure Bank
In extreme circumstances, such as the economic crisis of 2008 and the global pandemic of 2020, there is a role for the government to play through fiscal, in addition to monetary, policy to offset a decline in aggregate demand caused by a lack of investor and consumer confidence.
Balanced Budget Policy not a Balanced Budget Amendment
Unfortunately, the economic stabilization role of government is compromised if the public sector operates at maximum levels of deficit spending during normal periods. If that is the case, then the government’s intervention is likely to be ineffective, because it is obvious that it will be followed, shortly thereafter, by a major contraction in government spending, an increase in taxes, or higher interest rates. Markets have foresight and short-term stimulus will not be able to fool enough people to be successful in that kind of environment. For this reason, it would be wise to restrict the federal government to operate with a balanced or nearly balanced budget unless the country is at war, or economic growth rates are negative. It would be difficult, probably impossible, to pass a constitutional amendment to keep federal spending in check. We would favor candidates who support a long-term policy guideline of spending no more than 20% of GDP on all federal government activities, excluding periods of war or declining per capita GDP. We recognize that this target will be difficult to achieve given the current impact of demographics on Social Security and Medicare expenditures. We should, at least, be attempting to return to this target level of expenditures at some point.
Infrastructure Bank without Favors for Unionized Labor or Buy American Provisions
The infrastructure of the U.S. needs major repair, including highways, bridges, and water and sewer systems. It does make sense to have an inventory of these kinds of projects ready for investment. In the event that it is appropriate for the government to increase spending in the face of declining private sector investment activity, this inventory of infrastructure investments will reduce the waste associated with poorly thought out grab-bag stimulus programs like “cash-for-clunkers” or incentives for housing purchases that merely shift demand for a very brief period of time. We have one important caveat, in terms of our support for the concept of an infrastructure bank. Spending for these infrastructure projects should not be a way to reward favored groups or regions. In order to be included in the list, a proposed expenditure needs full public vetting, including a review by the Congressional Budget Office or the Government Accountability Office, of its merits. In addition, special restrictions such as those imbedded in the Davis-Bacon Act or requirements to hire union labor or “Buy American” should be excluded for items in the infrastructure bank inventory.