Why do we want the Fed to steer the economy?

Recently at the annual economic conference in Jackson Hole, Fed Chairman Ben Bernanke said that the Fed "will do all that it can" to ensure an economic recovery, according to this Bloomberg story. The article then goes on to cite the reactions of various Wall Street economists, such as one who said, "The Fed is ready to take action as needed -- they realize the economy is not doing as well as expected."

Absent from the story were any opinions that the Fed should have nothing to do with steering the economy, and that such steering was a large part of what wrecked the economy in the first place (see our post from July of last year entitled "The Fed's oversteering and the wreckage of the past decade").

We believe that the Fed should focus on keeping a stable monetary policy, and that's it (we commend Mr. Bernanke for saying that the Fed would be vigilant in preventing either inflation or deflation, which is what the Fed is supposed to be doing). Economists such as Mr. Bernanke do not generally have experience running businesses, let alone running an entire economy. They should provide a stable currency, so that businesses can make decisions in a predictable monetary environment.

This metaphor of "steering the economy" is pretty popular right now, as evidenced by this recent story about President Obama's fondness for saying the Republicans drove the economy into a ditch and he and the Democrats have been sweating to get it back out. The Republicans want the keys back, he said, but "if your teenager drives into a ditch, your car, bangs it up, you've got to pay a lot of money to get it out, what do you do? You take the keys away [. . .] Our back is sore from pushing that car out of the ditch. And I mean, if they want to get in the back seat, that's OK. But we're not going to put them behind the wheel.”

Absent from the article describing the growing level of detail in the "car in the ditch" metaphor is the rather obvious question of "Why would you want the federal government to be 'driving' the economy in the first place?" The Constitution doesn't say anything about giving the federal government the responsibility of "driving the economy," whether it is being run by Republicans or Democrats or anyone else.

Prior to the Great Depression, people would have been shocked at the very idea that the federal government needed to "drive the economy" or that the president should be getting "down in the ditch" pushing the economy out whenever it gets stuck. Politicians may have experience in lots of things, but running economies (or pushing cars out of ditches) are usually not among those skills.

In fact, we have presented evidence in the past that government "stimulus" actually hurts economic growth, because it makes less capital available for those in the private sector who really drive the economy. So the next time you read that "the Fed" or "the government" stands ready to "do what it takes" to move the economy forward, you might ask yourself why we should want them to do that, and when that became their role.

Since the media does not seem to be asking those questions, we thought we would bring them to the attention of our readers.

For later posts on the same topic, see also: