In an insightful op-ed in today’s Wall Street Journal, former Federal Reserve Bank of Dallas Vice-President and current member of the Cato Institute, Gerald P O’Driscoll, Jr., says effectively the same as I’ve been saying these last few weeks. The headline of his piece: The Fed Can’t Solve Our Economic Woes. The essence of his opinion is that monetary solutions can’t cure what ails us, from the piece:
The financial panic and ensuing great recession was a classic balance-sheet recession. As balance sheets shrank in value, demand collapsed. There was a liquidity crisis as well, centered around Lehman’s collapse, but the driving force was collapsing balance sheets, impaired capital values and, for many, insolvencies.
The declines in home values, investor portfolios and 401(k) plans, and the uncertainties surrounding retirement plans, have all had a big impact. The solution lies in restoring balance sheets. For financial firms, that means raising capital. For consumers and businesses alike, that means saving more of their reduced incomes.
Yet public policy has focused almost exclusively on stimulating spending without much regard to why spending, especially consumption, has flagged. Until balance sheets (corporate and household) are restored, increased spending cannot be sustained.
Get it? Demand destruction, the knock-on effect of the housing mania and its subsequent collapse, can’t be reversed by monetary machinations. The whole piece is well worth a read. It’s in the free section of the Journal, so you needn’t have a subscription to access it.
Of course, it’s hard to know what he might say were he a member of the Fed’s board today. It is infinitely difficult for anyone to admit impotency in such a way that makes what they do seem unimportant and even superfluous. To take an example from personal experience–how many times has your doctor told you they didn’t know cause of your condition and could therefore do nothing about it? That doesn’t often happen because the doctor’s whole livelihood depends on you believing him capable of discerning causes and prescribing cures. He’ll make up a diagnosis and prescribe a cure before admitting he hasn’t a clue. So it is with the Federal Reserve. At least we have former Fed officials that are willing to point out what should be obvious to everyone paying any attention at all–the Fed can’t solve our economic problems.