Most advocates of stronger government intervention in the economy believe that Keynesian policies like stimulus spending are the best way to fix recessions. But Matthew Yglesias, a fellow at the progressive Center for American Progress, urges his brethren to pay more attention to the potential of the Federal Reserve. In a Democracy journal article, he suggests that progressives should embrace the power that the Fed wields with its monetary stimulus and push for reforms to make its intervention more effective. Some might find his argument compelling, but several big obstacles stand in the way of the left developing a love affair with the Fed.
They've Got the Banks' Backs
First, there's the obvious conflict-of-interest problem that the Fed has. One of its chief purposes is to aim for maximum employment, which certainly would help ensure almost all Americans have jobs that want them. To be sure, this is a populist goal. But meanwhile, its role is also to act on behalf of the banks. It conducts emergency lending to keep banks from failing in the name of financial stability. Moreover, its regional governors are appointed by the Fed member banks, which make up 42% of the committee that conducts monetary policy.
Although the Fed is a banking regulator, it's also a banking industry advocate. Most progressives probably don't love the idea of empowering an organization that's explicitly in the banking industry's corner. But Yglesias has a partial solution to this problem: change the way that the regional Fed presidents are chosen. Then, at least you eliminate the banking industry's control of 42% of the monetary policy committee.
Instead, he suggests letting governors, senators, or state legislatures do this within the various regions. For state governors, progressives would probably be worse off due to regional concentrations of left-leaning voters in a few areas like the northeast and the west. If you look at the breakdown of the 12 Fed bank regions, six would be controlled by Republican governors, three by Democratic governors, and three would be split, roughly speaking. For senators and state legislatures, this process could be difficult and burdensome due to partisan politics. After all, the Senate can't even manage to confirm President Obama's third nominee, Peter Diamond, to the Fed Board of Governors after almost a year.
And even if you change the way the monetary policy committee is selected, it will still ultimately serve the banks. Progressives would have to make peace with the objective of financial stability, and the baggage that comes along with it, to advocate for a stronger Fed.
A Strictly Defined Dual Mandate
In order to give the Fed's intervention less controversial and make it more precise, Yglesias also suggests better defining the dual mandate. He suggests an inflation target as a possibility. If the Fed had to explicitly target 2% inflation, for example, its intervention over the past three years would have been seen as explicitly following its charter.
This might have helped progressive goals under recent circumstances, but what if the U.S. was in a situation where there was stagflation? Does the Fed then become powerless to use its monetary policy tools to increase employment? Or what if inflation was at 2% over this period? Proponents of a vague dual mandate would likely argue that its lack of specifics gives the Fed the necessary flexibility to do what it feels is in the best interest of the macroeconomic situation of the U.S.
Who Gains the Most From Fed Intervention?
Yglesias doesn't touch on the big winners of Fed monetary expansion. Although, if it works as advertised, it may help to restore full employment, this effect is generally smaller than the positive effects for the financial markets. In other words, bankers and investors get rich when the Fed loosens policy. Stocks often soar. Since poorer Americans tend to have fewer financial assets, they only benefit if they happen to be unemployed or if the action does manage to encourage a firm to hire more aggressively. Wealthier people generally gain more, which could actually increase the wealth gap.
Additionally, some progressives could argue that strictly adhering to an inflation target could make poorer people worse off. A little extra inflation could help a country to more easily pay down the debt it incurs to provide transfer payments. It could also help relieve individuals' debt burden on fixed interest-rate loans. The counter argument, of course, is that such action to monetize national or personal debt is viewed negatively by financial markets, but some on the left have lauded the goal in the past.
So ultimately, it might be a little difficult for progressives to fall in love with the Fed. Its ability to sidestep politics, through its independence, and provide monetary stimulus to an ailing economy might sound like a nice benefit to advocates for aggressive economic planning. But it won't be easy for the central bank to shed its allegiance to the financial industry. And ensuring that it always interprets its dual mandate in such a way to please progressives would also be difficult.