Photo: Stephen Voss for The Wall Street Journal
Fed Officials See Less Need for Tax and Spending to Boost Short-Term Growth
Shift in thinking comes as economy improves, jobless rate declines
By Shayndi Raice
Federal Reserve officials increasingly say they don’t see a need for stimulative government tax and spending programs to boost short-term economic growth, reversing their stance during and after the Great Recession.
The shift is drawing attention as President-elect Donald Trump prepares to takes office on the promise of tax cuts and spending increases. He has promised annual U.S. economic growth of as much as 4%, double the 2% seen since the recession.
To several Fed officials, the need for such fiscal stimulus to raise overall demand is a thing of the past—the postcrisis period when unemployment peaked at 10%. Today, with joblessness down to 4.7%, they instead advocate targeted policies to spur long-term economic growth by raising productivity—or output per labor hour. These would include improving education and infrastructure, fostering research and encouraging new business formation.
“I would say at this point fiscal policy is not obviously needed to provide stimulus to help us get back to full employment,” Fed Chairwoman Janet Yellen said in December.
To some observers, the turnabout appears political: Fed officials supported fiscal stimulus during the Obama administration but don’t as Mr. Trump takes the helm. However, central bankers see this as a return to normal now that the economy has healed.
Underlying the Fed’s shifting view is a long-running economic debate about the appropriate interplay between monetary and fiscal policy in managing the economy.
Before the 2008 crisis, many economists agreed that monetary policy was a better tool than fiscal policy for managing the short-term ups and downs of the business cycle. Central banks could quickly cut interest rates to boost economic activity in a recession or raise them to cool the economy if it overheated. Changes in government tax and spending programs generally take longer to enact because of congressional wrangling and are better targeted at the economy’s long-term needs, the thinking goes.
In the 1990s the Fed, under then-Chairman Alan Greenspan, cut rates in response to a recession, raised them mid-decade to prevent the economy from overheating, and lifted them again later during the tech boom. Meantime he frequently urged Congress and the White House to reduce projected federal budget deficits. In early 2001, after budget surpluses appeared, he supported tax cuts.
The thinking changed after the crisis, when the Fed and central banks in other advanced economies cut rates to near zero, only to see a deep global recession in 2009. The collapse in demand was so great, and their policy options so limited, that many monetary policy makers called for help—urging governments to ramp up short-term spending and make structural changes to their economies to foster economic growth.
European Central Bank President Mario Draghi has for years urged European governments to do more to fuel growth, saying monetary policy “can’t do everything.” Bank of Japan Governor Haruhiko Kuroda has been urged by some economists to adopt a policy called “helicopter money,” in which the central bank prints money in direct support of tax cuts and government spending increases.
In the U.S., however, the economic tide has turned. Fed officials raised interest rates in December, their second increase in a year, and foresee more increases this year if it stays healthy. In this context, they’ve returned to the old view.
“I don’t see a need of the kind of fiscal policy just to stimulate aggregate demand,” Cleveland Fed President Loretta Mester said in a recent Journal interview. “If we could come up with policies that are productive in terms of raising productivity growth, that can help our long-run economy, then those are good things,” she said, citing as examples educational programs to help workers move into new jobs and efforts to improve internet access across the country.
Chicago Fed President Charles Evans made a similar argument last month when he said that with a strong labor market “you don’t need explicit stimulus.”
Fed Vice Chairman Stanley Fischer said in October, “Some combination of more encouragement for private investment, improved public infrastructure, better education, and more effective regulation is likely to promote faster growth of productivity and living standards.”
Some Fed watchers see political implications in the shift. “Call me a skeptic, if you will, but had [Hillary] Clinton won, I don’t think Fed officials would be walking back their comments on more fiscal spending,” said Brian Horrigan, chief economist at Loomis Sayles & Co.
But PNC Financial Services Deputy Chief Economist Gus Faucher is among those who view it as a reflection of the Fed’s confidence in the economy. “I think that the reason why simply is that the economy now is in better shape than it has been in any time since before the recession started,” he said.