Bernie Has it Wrong on Monetary Policy

By David Harary, Executive Director

In a New York Times op-ed on December 23rd, Presidential candidate, Bernie Sanders laid out a plan to rein in Wall Street by fixing the Federal Reserve. Mr. Sanders is correct on Wall Street’s power and control over America’s financial system. It’s also true that collusion has historically run amuck between bankers and government. However, Mr. Sanders’ proposed policy reforms on the Fed would do more harm than good.

There’s an odd relationship between economists and politicians. It’s often said that economists become frustrated with policymakers due to their shortsightedness, while policymakers become frustrated with economists from their lack of “real world” understanding.

Instead of allowing the Federal Reserve to make its own decisions, Mr. Sanders wants to reform the institution by placing new rules and regulations on how it conducts monetary policy. He states in the op-ed, “the recent decision by the Fed to raise interest rates is the latest example of the rigged economic system.” Regarding specific new policies, he then states, “as a rule, the Fed should not raise interest rates until unemployment is lower than 4 percent. Raising rates must be done only as a last resort — not to fight phantom inflation.” Taking powers away from the Federal Reserve and into the hands of politicians is bad for the economy. For example, the last time unemployment dropped below 4 percent was December of 2000. Under Mr. Sanders’ proposed regulation, interest rates couldn’t have been raised in the last 15 years.

This is why the liberal bastion of banking reform, Senator Elizabeth Warren, does not support interfering with the Fed’s monetary policy decisions. Regarding Senator Rand Paul’s ‘Audit the Fed’ bill, Ms. Warren said in an emailed statement in February of 2015, “I strongly support and continue to press for greater congressional oversight of the Fed’s regulatory and supervisory responsibilities, and I believe the Fed’s balance sheet should be regularly audited – which the law already requires,” and goes on to say, “But I oppose the current version of this bill because it promotes congressional meddling in the Fed’s monetary policy decisions, which risks politicizing those decisions and may have dangerous implications for financial stability and the health of the global economy.” Mr. Sanders disagrees.

While it’s true that a clear conflict of interest still exists among many individuals on the Federal Reserve’s boards, politicizing monetary policy can have far reaching consequences on the global economy’s well being. The Fed uses monetary policy to initiate either the expansion or contraction of the economy’s total supply of money. By implementing a 4 percent unemployment rule, the Fed would largely be limited to using only expansionary policy. Unfortunately, a policy such as this would not accomplish Mr. Sanders’ intended goal to provide greater economic stability for all.

With a near-zero interest rate in place for years now, the Fed successfully brought the U.S. economy out of recession and brought along a 5 percent unemployment rate. It makes sense for the Fed to now incrementally increase the federal funds rate from 0.25% to 0.5% as job growth continues to increase. This serves more as a bellwether for future tightening than is impactive to the near term economy. Nevertheless, signalling such as this provides predictability to the market going forward.


 

David Harary is the Executive Director of the Center for Development and Strategy. He is a current graduate student in Sustainability Management at the University of Toronto and has a B.A. in Economics, Geography, and International Trade from the State University of New York at Buffalo.