The Aspen Institute

The Federal Reserve, as was expected, lowered interest rates by .25% last week. The “as was expected” in that sentence is something of a puzzle, though. The media expected it, based on the fact that markets expected it, and perhaps because the executive branch of the government seemed to be demanding it. Was the Fed yielding to pressure from these groups, or did it have its own logic to support the move?

Janet Yellen, former chair of the Federal Reserve Board of Governors, and Kevin Warsh, a former Fed board member, discussed “The State of American Capitalism” as part of the McCloskey Speaker Series. Their July 28 conversation was presented in collaboration with the Aspen Economic Strategy Group.

Moderator Neil Irwin, senior economics correspondent for The New York Times, began by pointing out an unprecedented anniversary, noting that we are in an unheard-of tenth year of an economic expansion, with little credit given to seven years of zero interest rates. Low rates allowed the US economy to mitigate some less-than-ideal global trends which were going on long before 2008. “Our former colleague Ben Bernanke termed it a ‘global savings glut,’” said Yellen, “so I think we realized that there were forces that were leading, in the global economy, to a lot of saving and very weak investment spending.” Low interest rates were required to keep the economy on track. “The new normal,” she said, “looks like it will be a world in which, in advanced countries, interest rates remain low for the foreseeable future.”

“It’s a terrible thing if the Fed just does what the market says it wants and expects,” Yellen continued, “but when the market sees the same things the Fed does and anticipates the Fed’s actions — and the Fed agrees with the logic that’s embodied in the market — it’s a sensible thing to ratify those expectations.”

“That story has to be persuasive,” countered Warsh. “It can’t just prescribe the decisions that we give, they have to have a rationale that’s compelling so businesses and households can then react. Hewing to it because the stock market and bond markets want the Fed to raise this week — that’s not the right reason. I think the framework is in need of serious reform.” Current Fed chair Jerome Powell, said Warsh, is in a difficult position, lacking much of the ammunition and credibility that the Fed had when facing the 2008 crisis.

As the discussion continued, it became clear that Chairman Powell may need all the tools he has, especially as disasters like debt and deficits, trade wars, and — particularly — climate change loom on the horizon.

Photo Credit: Hal Williams.