Posted by ROYA WOLVERSON- TIME
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Yesterday's viral video of Texas governor Rick Perry deriding the Fed is getting a lot of play. The new presidential candidate seems to think our wily central bank is plotting the country's demise through "money printing" policies that "play politics" and are practically "treasonous." Let's move past the part about Perry and his Texas brethren being ready to physically assault Fed chair Ben Bernanke (quoth Perry: "I don't know what y'all would do to him in Iowa, but we would treat him pretty ugly down in Texas") and get down to the policy implications.
Perry: "Printing more money to play politics at this particular time in American history is almost...treasonous in my opinion." Beyond the folksy, election-crazed spin of this statement, there's actually a real debate here. The question is this: Could more "money printing" actually solve the country's debt problems? Or would it, as Perry alleges, make our economy worse?
Economists like Harvard's Ken Rogoff think we should be stoking inflation (aka "money printing") as a way to kick-start the recovery. The conviction is based on findings from his 2009 book with the NBER's Carmen Reinhart This Time is Different, which maps out the history of debt crises. In a normal recession, argues Rogoff, overly-easy Fed policy (which tends to reduce the value of the dollar over time and scare the living daylights out of inflation fearers like Perry) could be considered dangerous and unfair, since it transfers income from savers to debtors. In Perry's mind, that means the hard-working American savers bail out the welfare queens who've been driving up government deficits. But this is no normal recession, argues Rogoff, and so the solutions must be creative. The number one difference is that, as compared to previous recessions, this time we're stuck with way more debt. And that's left all the drivers of growth – American households, banks, and the government – unable to get things moving. To quicken the pace of recovery, says Rogoff, debtors and creditors will have to pay up, or all will suffer from years of low growth.
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Other economists, like the University of Chicago's Raghuram Rajan, are staunchly anti-inflation. For one thing, argues Rajan, reducing debt by raising inflation would only work if the central bank ratcheted up inflation very quickly. A slow rise in inflation, by contrast, would give our lenders too much time to demand higher interest rates on our debt, and the net effect wouldn't do much to reduce our overall obligations. A big bout of inflation would also be hard to contain, since markets might stop believing the central bank's mandate to keep inflation low when the needed bout was over.
Then there are problems with who would benefit from this engineered "money printing." Americans borrowing for the long term could actually be worse off, if their wages didn't keep up with skyrocketing costs, like higher food and gas prices.
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Meanwhile, our hero creditors – who would in theory be forking over their savings (by losing purchasing power) for the sake of the recovery – may not be all that flush. As Rajan points out, many U.S. bond holders are neither rich people nor the Chinese government. Troubled banks, underwater state pension funds, and insurance companies might actually be forced to default if their bond investments plummeted.
At the end of the day, it's the foreign holders of U.S. debt (China, Japan, etc) we'd want to target to inflate away U.S. debt. But even that could have repercussions, since we might still need foreign creditors to fund our future deficits. And those deficits would be even more troublesome if higher inflation stuck around. Roughly half of all federal debt in the next decade is for Social Security, Medicare and Medicaid, which, unlike foreign-held U.S. debt, all rise with inflation.
Now, no one can say where this higher-inflation path would certainly lead. But given all the risks involved, the question is whether it's worth it, especially since there are other ways of sloughing off debt to catalyze growth. Both Rogoff and Rajan, not to mention plenty of other economists like Nouriel Roubini and Eric Posner, have suggested renegotiating the terms of troubled mortgages to help shore up the American consumer and heavily-indebted small businesses. But proposals like those have become throw-away lines in this political climate.
What's left are statements like Perry's, which muddle the issue and "stir people's blood." If we're going to start debating the Fed's independence and runaway inflation, let's at least let some cool-headed experts chip in.
Read more: http://curiouscapitalist.blogs.time.com/2011/08/17/is-rick-perry-right-about-a-runaway-fed/#ixzz1VJqUmqMv
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