Last week the Federal Reserve effectively reduced its discount rate - the interest rate banks pay to borrow - to near zero, in what has been widely interpreted as yet another effort to stabilize home prices and spur economic growth. It's the wrong move by the wrong part of government.
The Federal Reserve's responsibility should be price stability. Broader economic policy, including incentives for growth, more properly rest with Congress and the Executive Branch, neither of which has offered a coherent pro-growth agenda in several years. The Fed, in short, is carrying far too big a policy load, and as a consequence it is objectively failing across the board. Rather than spur confidence, its series of shoot-from-the-hip moves in parallel with an ungrounded Treasury Department, are undermining confidence.
Congress, about to be controlled by near-supermajorities of big-spending Democrats, is not helping matters by vowing in excess of $1 trillion of highly inflationary "stimulus" spending early next year. For all of this fecklessness, Americans are paying an extraordinary price, and surely will pay more in the form of high inflation in the not-too-distant future.
What should the Fed, Treasury and Congress be doing?
Surely, not artificially propping up housing. Markets will simply wait in stasis, anticipating another popping bubble. Price subsidies work no better in economic terms than price controls. Eventually such artifices must give way to reality, and when that happens the economic shocks are all that much larger. Neither is congressionally driven, deficit "stimulus" spending helpful; it is inflationary, constrains future policy options by piling up debt on which interest must be paid, and it is fundamentally too slow to have the desired effects. By the time appropriations make their way through bureaucratic spending processes and into the hands of actual contractors, several months - and likely the depths of the economic swing - will have passed.
The Fed ought to focus purely on two things: Its role in maintaining adequate liquidity in the banking system, and price stability. Cheap money - zero interest - undermines the dollar and serves to inflate prices.
Congress, for its part, should examine fundamental economic incentives: Corporate and individual income tax rates, capital gains taxation, and other impediments to economic growth. If Congress was serious about spurring growth, then it would dramatically reduce corporate taxation and entirely eliminate taxes on capital gains, both of which currently are at uncompetitive levels versus other industrialized and emerging markets. Business and individuals would respond to such fundament reordering of incentives in favor of job-creating economic growth.
What of Treasury and the remnant Bush Administration? At this point, the less they do the better, although Treasury could do one thing: It is within the IRS' rulemaking authority to effectively declare a lower capital gains rate by redefining gains as those exceeding the rate of inflation. Treasury could adopt an emergency rule to that effect, applicable to the 2008 tax year. This would have a salutary effect on stock values and therefore most Americans' retirement savings and pension values.
All this translates to economic leadership. In all respect to Fed Chairman Ben Bernanke, it's not his job or the Fed's to lead national economic policy. It's the job of those who sadly have been worse than missing in action - congressional, ahem, leaders and Bush administration officials who have at best conveniently shuffled the job to the Fed and at worst been incompetent.