Dallas Fed President, Richard Fisher: The Limits of Monetary Policy and the Importance of Fiscal Policy

The Limits of Monetary Policy and the Importance of Fiscal Policy

Here is the rub. As mentioned, the FOMC sets monetary policy for the nation, for all 50 states—its influence is uniform across America. The same rate of interest is charged on bank loans to businesses and individuals in Texas as is charged New Yorkers or the good people of Illinois or Californians; Texans pay the same rates on mortgages and so on. Why is it that the Texas economy has radically outperformed the rest of the states? A cheap answer is to revert to the hackneyed argument that Texas has oil and gas. It is true that we produce as much oil as Norway and almost as much natural gas as Canada. And we have some 60 percent of the refineries of the United States.

But remember that the numbers I showed you are employment numbers. Only 2 percent of employment in Texas is directly generated by oil and gas and mining and related services. We are grateful that we are energy rich. But we are a diversified economy not unlike the United States, where business and financial services, health care, travel and leisure activities and education account for  similar portions of our workforce. Why, then, do we outperform the rest of the United States?

To me, the answer is obvious: We have state and local governments whose tax, spending and regulatory policies are oriented toward job creation. We have the same monetary policy as all the rest; our income is taxed at the same federal tax rate; and we are equally impacted by Washington’s tax, spending and regulatory policies. But we have better fiscal policy at the state level. We have no state income tax; we are a right-to-work state; we have state and local governments that, under both Democratic and Republican leadership, have for decades assiduously courted job creators—so much so that we have even outperformed the job creation of most every other major industrialized economy worldwide, as shown by the previous slide.

Whither Monetary Policy?

Now, back to the hue and cry of financial markets, and the question of further monetary accommodation.
Interest rates are at record lows. Trillions of dollars are sitting on the sidelines, not being used for job creation. We know that in areas of the country where fiscal and regulatory policy incents businesses to expand—Texas is the most prominent of those places—easy money is more likely to be put to work than in places where government policy retards job creation. During the next  few weeks as I contemplate the future course of monetary policy, I will be asking myself what good would it do to buy more mortgage-backed securities or more Treasuries when we have so much money sitting on the sidelines and yet have no sense of direction for the future of the federal government’s tax and spending policy. And with the president’s health care legislation awaiting resolution in the Supreme Court, we also know that no business can budget its personnel costs until that case is decided. If job-creating businesses have no idea what their taxes will be, are clueless about how federal spending will impact their customers or their own businesses and cannot budget personnel costs—all on top of concerns about the risk to final demand posed by the imbroglio in Europe and slowing growth in emerging-market countries—how could additional monetary policy be stimulative?

A good theoretical macroeconomist can acknowledge that a great deal of liquidity is, indeed, going unused at present. They might likely argue that further monetary accommodation would raise inflationary expectations by magnifying the fear that the Fed and other monetary authorities are hell-bent on expanding their balance sheets and, consequently, the money supply so dramatically that inflation will inevitably follow.

The result, the good macroeconomist would deduce, would be salutary: It would scare money out of businesses’ pockets and into job expansion and would lead individuals to conclude they  better spend their money today rather than have it depreciated by inflation tomorrow, thus pumping up consumption and final demand.

I beg to differ. I would argue that this would represent a form of piling on the already enormous uncertainty and angst that businesses face with our reckless fiscal policy. To me, that would be the road to perdition for the Federal Reserve. There is in the marketplace a lingering fear that the Fed has already expanded its balance sheet to its stretching point and that an exit strategy, though articulated, remains theoretical and untested in practice.

And there is a growing sense that we are unwittingly, or worse, deliberately, monetizing the wayward ways of Congress. I believe that were we to go down the path to further accommodation at this juncture, we would not simply be pushing on a string but would be viewed as an accomplice to the mischief that has become synonymous with Washington.