Jeff Harding: The Fed didn’t change any policies yesterday, but they have really bought into the “jaw, jaw, jaw” theory of monetary policy by extending the low interest rate (ZIRP) policy out to late 2014 from their former mid-2013 target. That is, they believe if the markets rely on the Fed’s word to keep interest rates low for an “extended period” any doubts about the Fed’s commitment to cheap money will go away and banks and businesses will plan their future without worrying about policy changes. So, in one sense, this is a slight policy change by communicating its long-term commitment to ZIRP.

In their press release they still express doubt about near-term recovery. The only real change in their statement is that they have noted that price inflation has moderated somewhat since the December report:

As you can see from their chart, their expectations on the range of inflation has been lowered slightly to 1.4% to 1.8%, down from November’s 1.4% to 2.0%. What that means is their policy options are now wide open. That is, if things stall they can engage in more quantitative easing (“asset purchases”) without worrying about price inflation.

Overall they said:

The Committee expects economic growth over coming quarters to be modest and consequently anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate.

Their concerns are:

While indicators point to some further improvement in overall labor market conditions, the unemployment rate remains elevated. Household spending has continued to advance, but growth in business fixed investment has slowed, and the housing sector remains depressed. … Strains in global financial markets continue to pose significant downside risks to the economic outlook.

At his press conference, there wasn’t too much new news from Chairman Bernanke. But there was an interesting response to a question from a CNN reporter who asked him about 2% inflation. They reporter asked that since the Fed will be criticized in this election year, what is your response to the argument that you are devaluing peoples’ savings at the rate of 2% per year?

The Chairman’s response was that, 1) 2% inflation is better than deflation [but not for savers], and 2) it only matters if you keep your cash under the mattress; most people invest in bank deposits or other investments which yield more than 2%.

These are really lame answers.

Understand that the Fed likes inflation because they think that modest inflation leads to economic growth. They are wrong. We’ve been having CPI inflation at 3.0% (the Fed uses PCE, at 2.5%). They haven’t stopped asset deflation—housing, CRE, and related debt are still losing value. The only “inflation” we’ve seen is in every day expenses the public sees every day. The booming financial markets are a result of QE. This has certainly helped Wall Street. Also exporters have been able to take advantage of a devalued dollar caused by QE and ZIRP. Actually, much-feared deflation is generally a positive response to an economic crisis and the inability to liquidate overvalued assets only delays a recovery. Also deflation encourages savings because cash becomes more valuable as asset prices decline. New savings help fund a recovery.

So, Mr. Chairman if you are a saver, with inflation at 2.5%, what do you invest in that yields more than 2.5-3.0%?  The average saver is losing money if she is getting minimal returns on things like money market accounts, CDs, and Treasurys. The Chairman seems to be recommending investments in riskier things like the stock market, which few savers really ever do well at. You can guess why he doesn’t admit that the Fed is destroying savings.

The Chairman’s thinking is wrong and is a good summary of what is wrong with current economic thought. It explains a lot. It explains why this depression/recession stubbornly refuses to go away.

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Written By Jeff Harding From The Daily Capitalist

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