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Fed Presidents at Milken Convo Reveal Limits of Monetary Policy

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Monetary policy is no magic wand. That may not have been the message the Milken Institute Global Conference wanted me to hear. I'm doubtful banks will lend to anyone but big corporates, and one another, anytime soon.

 The mission of Milken is to "move capital, policy and momentum toward realistic solutions." Not one, not two, but four current Federal Reserve Bank Presidents were on the conference agenda. Unfortunately, what the four Fed Presidents said in Beverly Hills last week was less exciting than the chance of spotting one of the finance, government or media stars walking the halls of the Beverly Hilton.

Dallas Fed President Richard Fisher, former vice chairman of Kissinger McLarty Associates, a strategic advisory firm chaired by former Secretary of State Henry Kissinger, joined a panel on jobs. He was asked if the tools of monetary policy can be used effectively to improve employment in the U.S. "Monetary policy is necessary but not sufficient." Great. Moving on…

Fed fanboys asked long, drawn-out questions with obscure economic jargon. "We're in a liquidity trap" was a favorite answer to everything. A liquidity trap is a Keynesian term describing conditions where the short-term nominal interest rate is zero. Like now. When that happens, increasing money in circulation has no effect on output or prices. "The Keynesian liquidity trap is therefore only a true trap if the central bank cannot stir expectations, " says the New York Fed.

Good luck with climbing out of that trap.

San Francisco Fed President John Williams joined former Mayor of Chicago Richard Daley and business executives to talk about the sustainability of the economic recovery, such as it is. Williams said there’s moderate GDP growth, hopefully picking up over the next two years. It's been held back in a big way by the housing sector which is "still struggling, still very depressed." He's hopeful we’ll see a rebound in the next two years.

Super. Check back with Williams in two years.

Fed Presidents Charles Evans of Chicago and Dennis Lockhart of Atlanta starred on their own panel. The dual purpose of the Federal Reserve Bank – a mantra repeated at all of the presentations – is to provide financial and monetary conditions to support maximum employment and price stability. Evans and Lockhart dueled, debating more accommodation – a fancy word for injecting liquidity via open market operations to spur growth – versus keeping a lid on inflation.

The articulated Fed goal is to keep inflation at around 2%, plus or minus. But Evans said economists, and their tools, are not perfect. "When you have inflationary trends developing…the power of monetary policy to correct that is not nearly as known a quantity as the power of monetary policy to bring inflation under control." 

In other words, economists don't see the semi tractor-trailer coming nor can they avert the crash but once the truck hits they're pretty good at mopping up the body parts.

Fantastic.

Journalists pushed at Evans and Lockhart during the press briefing, attempting to read the tea leaves of the individual Federal Open Market Committee member projections released in April. Lockhart downplayed such "Kremlinology" – the attempt to understand a secretive organization or process by interpreting indirect clues. "The imprecision of forecasting into the future," said Lockhart, "doesn't make that difference so important. I worry about …the Kremlinology that could develop around studying individual positions and forecasts."

Dennis Lockhart wants everyone to stick to the story line. Yes, he actually said "story line."

"The story line is the economy continues to recover at a very modest pace. …There's some fragility still so if something very strong like a sustained spike in oil prices…"

One of the journalists at the briefing queried, "What if gas goes above $4 this summer?" "Above $4 is definitely a concern," said Lockhart. "For a lot of Americans it hurts when you get above $4."

No kidding. In Chicago where Charlie Evans lives, we've had gas prices above $4/gallon since March and for most of 2011.

Fed President Evans thinks more accommodation, such as injecting money into the system even if it means inflation hits 3%, will eventually start something rolling. Evans says maybe we'll get lucky. "It could be the case that things all of a sudden start picking up, uncertainty goes away, people get optimistic and the deleveraging has run its course…"

But the banking system, the distribution channel for monetary tools such as cheap liquidity to the rest of the economy, is not playing along. Over and over we heard at the Milken Institute Global Conference that there’s a "clog in the transmission mechanism.

The Fed may have to roto-rooter Wall Street to loosen things up.

Francine McKenna writes the blog re: The Auditors, about the Big Four accounting firms. She worked in consulting, professional services, accounting and financial management for more than 25 years.

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Comments (1)
When bankers think it's in their interest to lend, they'll lend. Ultimately, that means creating strong companies and consumers to lend to. That's beyond the scope of the Federal Reserve's printing presses and instead requires savings, investment and education. Neil Weinberg, Editor in Chief, American Banker.
Posted by Neil Weinberg | Tuesday, May 08 2012 at 3:50PM ET
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