Debate Club

Keep Interest Rates Low, and Find Other Ways to Burst Bubbles

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The Federal Reserve has done the right thing by creating trillions of dollars through its quantitative easing, thus pushing long-term interest rates very low, as well as engaging in a strong version of the more traditional expansionary monetary policy of low short-term rates – near zero since December 2008. This has helped save many Americans from unemployment. Unemployment is still over 7 percent, and if we count those involuntarily working part-time, or dropped out of the labor force, we have a rate of 13.8 percent. It would therefore be terribly wrong and unjust to abandon this policy. The only serious argument for changing Fed policy at this point is that such low interest rates can fuel dangerous asset bubbles.

Because our last two recessions, including the Great Recession, were directly caused by the bursting of such bubbles (first the stock market in 2000-2002, then real estate in 2006-2007), bubbles should be a serious concern. However the Fed does not necessarily need to raise short-term rates or even taper its quantitative easing (which would presumably push up long-term rates) in order to contain the rise of asset bubbles. It can publically announce and explain such bubble growth as it arises, and discourage people from buying overvalued assets by showing them how much they can be expected to lose.

[See a collection of political cartoons on the economy.]

Alan Greenspan caused the Dow to plummet in December 1996 with one speech about "irrational exuberance." It is likely that he could have contained the stock market bubble with some follow-up, but he chose instead to reverse his position and pretend there was no bubble, even as the NASDAQ nearly quadrupled over the next four years. The Fed can also use its regulatory authority, conspicuously absent during the run-up of the real estate bubble, to arrest bubble growth. There is no need to sacrifice the economy, and especially the lives of people who need employment.

At present, the stock market does not seem to be particularly overvalued; the housing market may be headed into bubble territory, but as noted above, that is containable through other means. As economists Paul Krugman, Larry Summers, my colleague Dean Baker and others have discussed recently, we are facing a problem of secular stagnation, where even the Fed's expansionary monetary policy is not enough to get us back to full employment. This means we need expansionary fiscal policy, which is not only feasible but very necessary.

[Read the U.S. News debate: Should There Be More Quantitative Easing?]

We are fortunate that the U.S. public debt burden is quite low, with less than 1 percent of GDP devoted to net interest payments. The Fed's quantitative easing makes expansionary fiscal policy even easier because it allows the government to borrow for free, since the new debt created does not add to the net interest burden of the government. Since inflation is very low, we do not need to worry about that either.

The Fed is doing its job by making real solutions to our economic problems – including reversing the huge rise in inequality, and reducing our chronic trade deficit – easier to tackle. It is time for the rest of the government to step up, and take advantage of the Fed's accommodative monetary policy to move our economy towards full employment.

Mark Weisbrot

About Mark Weisbrot Co-Director of the Center for Economic and Policy Research,

Tags
Federal Reserve
interest rates

Other Arguments

#1
35 Pts
Federal Reserve Interest Rates Should Be Near Zero Forever

Yes – Federal Reserve Interest Rates Should Be Near Zero Forever

Warren Mosler Co-Founder of the Center for Full Employment And Price Stability

#3
8 Pts
The Federal Reserve Should Raise Rates Immediately

No – The Federal Reserve Should Raise Rates Immediately

Mark Calabria Director of Financial Regulation Studies at the Cato Institute

#4
4 Pts
Monetary Policy Is the Only Game in Town

Yes – Monetary Policy Is the Only Game in Town

Martin Neil Baily Senior Fellow at the Brookings Institution

#5
0 Pts
Raising Interest Rates Now Would Be a Tragic Error

Yes – Raising Interest Rates Now Would Be a Tragic Error

Jeffrey Madrick Senior Fellow at the Roosevelt Institute

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