tv [untitled] May 10, 2012 5:30am-6:00am EDT
statement. >> chairman paul, ranking member clay, it's an honor to be here, especially given that i am a former member of the staff of this committee and that i served on the team that drafted the humphrey/hawkins full employment and balanced growth act. i wish to speak mainly today in defense of the dual mandate, the plural mandate, the flexible and practical language of present law. that law was drafted at a time of acute theoretical conflict in economics and on the staff. i was a young full employment liberal, one of our colleagues, james pierce, former federal reserve research director, was a mainstream keynesian at the time. who our colleagues were chicago monitorists trained by milton friedman. we promised on lang that gave clear reporting transparency and accountability requirements to
the federal reserve in the presence of ultimate objectives but that did not impose anyone's theoretical views. had we done so, i fear the oversight process would have failed long ago, perhaps when man stream economics adopted the concept of a natural rate of unemployment in the early 1980s, perhaps when classical m monitorism fell apart. being flexible the process has survived for over 35 years even though the theories come and go. price is it built is written into current law of monetary poli policy.
similarly if in some alternate universe the federal reserve were to pursue a full employment strategy at all costs, the presence of the price stability language would give you legitimate cause to question its policies and the reasoning behind it. having price stability alope in the charter would put the federal reserve in the position presently occupied by the european central bank, very difficult position, obliged to pretend to ignore unemployment even as that issue becomes increasingly important in the politics of the region it's responsible for. obliged to pretend to respect it's charter when circumstances dictate that, in fact, it deaf nate from it. and it would put the federal reserve in a perpetually difficult i think false poe before congress really make it
very difficult for the federal reserve to report forthrightly on what it's doing, and i think it would equally put the congress in an extremely difficult position as unlike the european central bank, which is an independent entity, the federal reserve is not and cannot be independent of congress. it is a creature of congress under the constitution. i think also that creating a single rigid price stability mandate would bring back the technical difficulties we experienced in the 1970s and 1980s over the definition of money. the definition of price stability would become similarly problematic if one looked at the notional definition of inflation presently in use, i think you would find that the federal reserve did not, in fact, violate its price stability mandate in the run up to the great crisis. it would be very hard to know before the fact when it was doing something that was not con
sannant with that mandate. the profession fell into complacency before the great crisis and the crisis delivered a shock from which economics has not recovered. issues of the cost of resources, as yet unfinished project of financial reform remain unresolved. unemployment is not going away as many prominent forecasters believed it would have been now. reasonable price stability, which was the language in the humphrey humphrey/hawkins example is one example. i do urge congress to continue to pursue the goals of oversight, accountability, and proprobe deeply what the federal
reserve is doing but within the framework of present law. thank you very much. >> i thank you. now recognize dr. rivlin. >> thank you, mr. chairman. i'm happy to have this opportunity to testify before this subcommittee as you consider the diverse set of bills about the federal reserve. i will concentrate my remarks on the dual mandate. i believe that the dual mandate has served the united states well and that it would be a mistake to restrict the fed's policy actions to fostering stable prices alone. i'd like to make clear at the outset, mr. chairman, that i believe in a strong, independent central bank. without a strong, independent central bank, functioning to mitigate economic and financial instability, i believe the united states would have a weaker, far more chaotic economy and lose its leadership position in the global economy. the objective of economic policy, including monetary policy, should be a rising
standard of living for most people over the long run. controlling inflation is a crucial element of the larger objective because high and especially rising inflation is a serious threat to sustained growth. i believe the dual mandate is simply a reflection of what average citizens ought to expect their central bank to do. let the economy create as many jobs as possible but don't let inflation interfere with that job growth. economists translate that common sense exhortation into a monetary policy aimed at keeping the economy as close as possible to its long run potential growth without seriously overshooting in either direction. this concept is enshrined in professor taylor's famous rule. the problem for the federal reserve decision makers is that potential growth is not observable because it depends on
trends and productivity growth which can shift unexpectedly. in the stagflation of the 1970s, hindsight indicates that monetary policy makers overestimated potential grout and did not tighten soon enough to avoid the acceleration of inflation at the end of the decade. in the '90s when i was at the fed, we faced a happier version of the same uncertainty. we had unemployment that was very low but no inflation. we held off tightening in the presumption, which proved correct, that accelerating productivity growth had raised potential growth and reduced the risk of inflation. partly thanks to the fed we had a very good decade in the '90s. we also balanced the budget. the sooner we get back to those conditions, the better. but the late '90s also illustrated the inadequacy of the fed's tool kit in response to asset price bubbles.
the dotcom bubble, if the fed had raised interest rates to deal with the dotcom double, i think it would have tipped the economy in recession punishing workers and companies across the country for no good reason. influencing the federal funds rate through open market prices is simply not an effective way of calming an asset price bubble. we learned that lesson again in the early 2000s. while we should not have needed a ka castro fi to learn this lesson, the dodd/frank act now gives the fed and the financial stability oversight council responsibility for financial stability and new tools with which to help achieve it. the dual mandate is not inconsistent with strong emphasis on controlling inflation when appropriate and
even with an explicit target for inflation. indeed, last january the fed confirmed a long run inflation goal of 2%. operating under the dual man date, the fed has successfully controlled inflation for three decades tp to change the language of the law to imply the fed's only concern should be inplation would send a misleading signal to a public rightly concerned with jobs and growth as well as inflation. it would imply that inflation is a serious current threat to american prosperity, which seems to me unwarranted. what we need now is a continuation of accommodative monetary policy plus fiscal policy that combines additional investment in long run growth and jobs with credible long run action to stabilize the debt. in short, monetary policy as executed by the fed under the dual mandate has a positive
track record and is currently appropriate. i would urge the congress not to tamper with legislative language that has served us well. thank you. >> i thank the panel, and i now yield myself five minutes for questioning. first off, i'd like to address my question to dr. herbener and dr. klein. today even with our previous panel plus this panel we have heard a lot about the dual mandate, and it seems like that's what we've spent most of our time on today. if you could, put that in perspective. how crucial is that? how much difference would it make? i know you have a different opinion about the overall picture and the monetary system, but we're not on the verge of having a commodity standard and restraint on the authorities, but how crucial do you think this debate is and how much different does it make whether there's a single or a dual
mandate? dr. herbener? >> i don't see too much evidence -- >> make sure i can hear you. >> i don't see too much evidence that in the perform epance of t fed the concentration on one wing of the mandate or the other has changed their actual performance. so the fed was in the 1980s concentrating on price stability more than the unemployment mandate, and yet they inflated to the extent of creating the bubble, the stock market bubble of '87 that burst and gave us a recession in '90-'91. in other eras where they have concentrated more on unemployment, their performance likewise has not been spectacular. it's been somewhat similar, i think, and so i don't think in practice that the dual mandate has been effective in restraining the fed's monetary policy or improving it one way or the other.
>> and, dr. klein, do you have anything to add on that? >> i agree with that. i would add that if you look at the incentives of the central bank, the central bank always has a stronger incentive to increase -- to be accommodative and increase credit rather than to be contractionary, so i would be more concerned about an m of sis on full employment which encourages the fed to go in the direction it wants to go anyway. price stability would tend to constrain the fed and go against the direction it naturally wants to go. >> of course, the argument that it didn't restrain them is precisely the reason they like the mandate, because it allows them to expand the money at will and, of course, we see this as a problem. quick question for dr. taylor, you are emphasizing some of these monetary rules, and even more monetary statistics.
would you be in favor of the fed once again issuing a report on this size and growth of m-3? >> i would be in favor of the fed doing that. i think it's the more emphasis on money sta ticks, the better in my view. i would say from the point of view of the congress, it seems to me you want the fed to report on its strategy, no the to dictate exactly what the strategy should be. that's the fed's job. you come to this hearing and report the strategy specifically which they did, which i think is constructive, but it requires the congress, this committee, to ask the questions about that strategy. i think that dialogue is very important. >> dr. gail brait, i tend to agree with you about the constitutionality of the appointments to the federal reserve board. we obviously have a different
opinion about what we should be doing, monetary policy and the federal reserve. but where does this authority come -- constitutional authority since you dreaddressed the constitution, the creation of a fiat monetary system. where does that authority come from exactly? >> i believe, mr. chairman, and i would be cautious about tangling with you on this, but the authority for the federal reserve act simply comes from the authority given to congress to coin money, regulate the value thereof. and, well, the federal reserve act, of course, has been functional piece of american law for over a century now. it would be a surprise to me if it were per se unconstitutional on that ground.
>> of course, if there's a prohibition to the constitution you can't change the constitution by the federal reserve act. but dr. rivlin, i think the removal of the report on m-3 came after i think you left the fed, i'm not sure, but why was that dropped? i mean, what would it have harmed us to know a little bit about the broad money supply? it seemed like it emphasizes a point of money growth and many believe still that the true price inflation is a consequence of money growth. is there any reason that we shouldn't have that figure presented to us? and why was it canceled out? >> i don't know. that was, i believe, after i left. but i'm always in favor of more information rather than less, but the emphasis on the monetary aggregates was declining for good reason.
they weren't stable with respect to anything, and we've had all sorts of different kinds of money created in the last few decades, and the idea that it was mostly checking accounts and savings accounts is just disappear disappeared. >> i, of course, would like to see more attention given to the stableness or the definition or explanation or defining what the monetary unit is rather than trying to concentrate on the consequences of an unstable currency but we don't have much time to get into that so now i'm going to yield five minutes to mr. clay. >> thank you, mr. chairman. welcome back, dr. rivlin. dr. rivlin, at any time during your tenure on the board of
governors, did the dual mandate interfere with the bord's ability to set monetary policy? >> no, i don't believe it did, mr. clay. setting monetary policy is really difficult, and you're always weighing different considerations, but we were very focused when i was there on what was happening to productivity growth, which was something of a mystery. we weren't very worried about inflation because it was falling, and so we continued thinking we were in conjunction with both mandates to the keep interest rates relatively low. >> and inflation was falling because the economy was robust, it was growing jobs, and that
was because the administration was working with congress to help the economy along. is that correct? >> well, we had strong growth in the economy. we had a restrictive fiscal policy in that period. we were trying to get back to a balanced budget which sounds like a fantasy now, and we did it. so the fed's job was easier at that moment because the fiscal policy was quite restrictive. >> thank you for that response. and dr. galbraith, as an architect of the dual mandate, can you share with this committee the vision and the need that the two legislative authors had for the dual mandate back then, senator humphrey, and congressman hawkins.
>> yes, congressman opinion. >> please turn on your microphone. >> i had the privilege of working directly with congressman hawkins at that time. of course, an economic policy mandate was not a new thing for the united states. we had the employment act of 1945, which stipulated maximum employment production and purchasing power as the goals of united states economic policy for the whole of the government. the humphrey/hawkins act sought to mod he werize and to make a little more ambitious and a little clearer the objective particularly with respect to employment and it also ended up clarifying what was meant by purchasing power. that's where the reasonable price stability came into the preamble. so it was a way of prodly specifying economic policy objectives for the entire government but also wrapt to the
fev this was the moment we had set up in 1975, a process of dialogue with the federal reserve regular overnight hearings and the hutch fri/hawkins act federal reserve provisions placed those into law and set a regular procedure, and that included, of course, as professor taylor said, goals for the growth of various monetary aggregates which over time, as dr. rivlin said, became less useful because the relationship between those statistics and anything you ultimately cared about became much noisier and less reliable. >> thank you for that response. doctor, being from missouri, my home state, let me ask you about something about that americans
are concerned about, and that's the rise in gasoline prices at the pump, especially the working class. what measures could the federal reserve take to stabilize the recent rise in gas prices? any suggestions? >> well, the price of gasoline and the price of -- the price of oil follow a little bit outside the mandate of the monetary authority. so certainly rising energy prices is one manifestation of a monetary policy that is overly accommodative, but on the whole energy prices, especially for oil, for gas, and so forth, are set primarily in global energy markets over which u.s. policymakers have relatively little control. there are measures about increasing supply and so on that might be within the purview of congress or the executive branch. in my view, there's not much the federal reserve system can or should be doing about that. >> okay. thanks for your response.
i yield back. >> okay. i now recognize the gentle lady from new york, dr. hayworth. >> thank you, mr. chairman, and thank you again for holding this hearing and for your leadership on this crucial question. i'd like to ask this question of the panel. is it fair to say that we probably would not have to debate as -- as vigorously and as urgently as we do and elect matly so under these circumstances, the role of the fed were it not for the fact that the fed has, as our central bank had to contend over the decades with an increasingly incontinent federal fisc? to the me it strikes me when we
talk about the mandates for the fed and the way it which it operates -- and again think being our conversation was chairman bernanke -- that so much of what the fed has felt compelled to do, if you will, i realize i'm using a somewhat lose interpretation of that, has been in response to the fact that we have a federal reserve government that fundamentally has continued and at an accelerating rate over the past few years to mismanage, if you will, large segments of the economy. dr. klein, perhaps you could start with that, please? >> certainly it's the case the job given to the fed becomes more difficult under the circumstances that you describe, but i'm not sure it's right to think of other branches of the federal government, the treasury, congress and so on, and the fed as being sort of antagonists, competing against each other or playing off each other.
i mean, one of the major functions performed by, you know, in open market operations is as has already been discussed earlier this morning, monetizing the debt. so the fed facilitates government expenditures and government borrowing that otherwise would not be politically feasible if the fed were not there to monetize the debt. i think the fed and the rest of the federal government are much more likely to be seen as working hand in hand than opposing each other. >> which is actually what i meant exactly. i mean, the fed has been the government's enabler to a certain extent. the federal government's enabler, and that's part of our problem. it's difficult to use monetary policy to endlessly accommodate what we've taken on. >> yes, i agree with that. >> thank you, sir. dr. herbener? thank you. >> yes. i agree as well that it create a certain type of moral hazard
to be able to appeal directly to a printing press or to some agency that would monetize debts that are issued. i would be profligate as well, anyone would, relative to not having that kind of accumulation. >> absolutely. dr. taylor, thank you. >> yes. i think if you hold out your shingle, say you're open for business, then people will come, and i think that's basically what has happened. the federal reserve has provided what you describe as an alternative to some actions. it bought 77% last fiscal year of the debt issued by the government. thaes a big, big intervention. >> right. >> i think there's -- monetary policy is itself part of the problem here given what it's done. but fiscal policy obviously is a problem, as is regulatory policy. so there's a whole gamut of
policies. each should be addressed separately. monetary policy can be improved and so can fiscal and regulatory policy. but the idea of working hand in hand leads to all kinds of problems as we've seen already. that's why i think questions about the mandate are important. >> that, indeed, is why i myself have become a co-sponsor of representative pence's bill because of that moral hazard issue. i'm eager to hear dr. galbraith, dr. rivlin. >> i think many of our problems now are due to a disastrous deregulation and desupervision of the financial sector, which led to a catastrophic meltdown of that industry and of the solvency of much of the american middle class, and the consequences, the effects that we see in the federal budget are largely a consequence, no the a cause, of that phenomenon. tax revenues fall, unemployment insurance payments go up. other kinds of stabilizing payments go up.
we are much better off, actually, for having a large federal government, federal budget that can stabilize the economy in this situation than we would be if we didn't have it. we didn't have it in the 1930s and the -- our output fell by about a third. the overall decline was much less this time around and that was because incomes were substantially stiblized by the fiscal actions of the government. >> wow. we've got a lot of food for thought there, doctor. you've defined the crux of the contrast between the two sides of this dais. and i realize i've run out of time. thank you, chairman, very much. i yield back. >> thank you. i now recognized gentleman from arizona mr. schweikart. >> thank you, mr. chairman. forgive me, but this is sort of an esoteric question, and no pointing and laughing, particularly for all of you with ph.d.s. we take a look back over the last 30 years at many of the different asset bubbles, whether
it be real estate, or even certain commercial bubbles whether it be the internet bubble where it was often large amounts of resources going in, inflating value beyond. is it theoretically possible to have a bubble on the fed's balance sheet by acquiring so much u.s. revolve lynn paper? so much mortgage backed mbs? at some point does it create a type of distortion in the market either by creating dramatically artificially low interest rates over here and at some point that's a bond bubble? it's a cascade effect? or actually on their own holdings itself? and is that just as, you know, right now we have the discussion about, are we heading towards a student loan bubble? because we're a trillion there, we're heading to $3 trillion on the balance sheet. it's a little esoteric and -- but is it one off?
and, doctor, please, share with me. is my concern just sort of unfounded? >> i think the fed -- >> can you pull the mike really close? >> i think the fed balance sheet, of course, exhibits the source of the bubbles that manifest in the economy. so when we see the fed's balance sheet, they engage in open market operations or buy mortgage backed securities from the banks and generate reserves in the banking system then it creates the possibility of the banks just creating credit on the basis of these reserves and channeling this credit into particular lines of activity where the bubbles arise, and so this is the very process by which the asset price bubbles are generated in the economy. we can't always tell exactly what lines they'll be generated in just by looking at the fed's balance sheet because the banks, of course, can --