The Federal Reserve helped pull the U.S. economy out of the deep recession of 2007-09 with its aggressive efforts to lower the cost of borrowing money. At some point, however, the Fed has to reverse course and push interest rates higher, or else it risks fueling inflation or inflating another asset bubble like the ones that led to the last two recessions. Unfortunately, there’s no flare that goes off to tell the Fed when we have reached that point, and history is littered with examples of when the board waited too long or not long enough to raise rates.
The Fed’s Open Market Committee is scheduled to meet this week in Washington, and it’s mulling whether to start nudging short-term interest rates back toward normal levels. There are good reasons to hold off and stick with the easy-money policies that have been in place since December 2008. But they are outweighed by the arguments in favor of carefully starting to tighten short-term interest rates now.
The central bank doesn’t control the economy, it just has a hand on one of the many levers that affect the pace of growth. Specifically, it takes steps to increase or decrease the amount of money in circulation to reduce unemployment while keeping inflation at a sustainably low level. Its monetary policy helps determine how easy (or hard) it is to obtain credit, which in turn influences how much businesses grow and invest and — by potentially lowering (or raising) the value of the dollar overseas — how much they export.
Opponents of an increase argue that the time is not yet ripe. China’s frenetic growth is slowing, Europe remains sluggish and the Middle East is a basket case. Here at home, Congress is fumbling its way toward another government shutdown. More than 8 million adults remain stuck in part-time jobs or have dropped out of the workforce entirely.
On the other hand, leaving interest rates at 0 percent punishes retirees who keep their money in bank accounts and Treasury bills. The low cost of borrowing can encourage businesses and investors to take on too much debt or put money into excessively risky ventures, while also promoting asset bubbles like the ones in dot-com companies in the 1990s and real estate in the 2000s.
Most important, as long as the Fed holds interest rates at 0 percent, it has few ways to respond effectively when another recession hits, which it inevitably will. By starting to move the target up now, the Fed will give itself room to maneuver in the future.
The signs point to an economy that’s on solid footing, with unemployment low and wages starting to rise in parts of the country. If it’s not strong enough now to handle a return to normalcy in monetary policy, when will it be?
FROM AN EDITORIAL IN THE LOS ANGELES TIMES