Christina Romer, former chair of the White House Council of Economic Advisers and a strong advocate for Janet Yellen to take over from Ben Bernanke as the next chair of the Federal Reserve, slammed the Fed in a lecture last week that accused the U.S. central bank of being too meek and of fighting the wrong battle by being fixated on asset bubbles.
Romer, sometimes touted as a potential candidate to fill one of the 3 vacancies on the Fed’s Board in Washington, or maybe run a regional branch (Cleveland has an opening), also discussed deliberately aiming for 3 or 4 percent inflation, as well as targeting nominal GDP.
One key observation from her remarks was central banks must tackle financial instability head-on. The Greenspan-era disdain for using monetary policy to burst asset bubbles has become a luxury which the post-crisis world can no longer afford:
“As hard as it is to spot a bubble in real time, monetary policy makers need to try, and to take steps to slow it down. This doesn’t mean they should fixate on bubbles and fear them lurking around every corner. But we now know that thinking we can just ignore them is a very bad strategy.”
Romer delivered the lecture at Johns Hopkins University event in Washington on Oct. 25. It was called: “monetary policy in the post-crisis world: lessons learned and strategies for the future“.
That said, she argued that concern about asset bubbles must not be used by the Fed as an excuse to pull back prematurely on quantitative easing, an error of judgment caused by policymakers fighting the last war, instead of the next one:
“Today, I worry that guilt over letting asset prices reach the stratosphere in 2006 and 2007 has made some policymakers irrationally afraid of bubbles. As a result, they focus on the slim chance that another bubble may be brewing, rather than on the problems we know we face — like slow recovery, falling inflation, and hesitancy on the part of firms to borrow and invest.”
As a policy prescription, Romer said the Fed needs to take a page out of its own history book. She cited the sort of dramatic action that helped the United States overcome the Great Depression, when President Franklin Delano Roosevelt took the nation off the gold standard, allowing a substantial increase in U.S. money supply. Also ‘Abenomics’ and the Bank of Japan’s recent robust efforts to end Japanese stagnation. One such “regime shift” would be to adopt a nominal GDP target:
“My reading of history is that such a bold change is more likely to move expectations in the desired direction than the largely incremental changes the Fed has been trying to use so far,” she said.