I’ve only read a little of the transcripts so far, but it is pretty interest to read what was going on inside the Fed in real time during the financial crisis. Here’s one example, which is a little speech Bernanke gave during an October 2008 FOMC Meeting:
CHAIRMAN BERNANKE. Thank you. Other questions? All right. If not, let me just say a few words. I will be brief. It’s more than obvious that we have an extraordinary situation. It is not a single market. It’s not like the 1987 stock market crash or the 1970 commercial paper crisis. Virtually all the markets—particularly the credit markets—are not functioning or are in extreme stress. It’s really an extraordinary situation, and I think everyone can agree that it’s creating enormous risks for the global economy.
What to do about it? The exchange we just had suggests that we may have disagreements about the benefits of liquidity provision. I personally think that it has been helpful. But I think we can agree that it is obviously not a panacea because, as the Vice Chairman points out, it doesn’t address the underlying capital issues. That suggests that the right solutions probably have a significant fiscal element to them. However, one feature of the last few days is how striking, how uncoordinated, and how erratic some of the fiscal approaches have been—particularly in Europe, where there has been a remarkable lack of coordination in the European Union. So the fiscal solutions are coming, but they’re not there yet, and it is going to be a while. We need greater clarity on those issues. We had a meeting today on the Treasury’s authority, and they are hoping in the next few weeks to begin to provide greater clarity, which will be very helpful. But I think that, if we can find some kind of bridge, it would be helpful, and that’s what this meeting is about.
Although the financial markets are the dramatic element of the situation, I think we can make a case for easing policy today on the macro outlook, as given by Larry and Nathan. I won’t go into detail. I think it’s fairly clear. You look first at inflation, and you see the remarkable decline in commodity prices, the appreciation of the dollar, and the decline in breakevens. The 10-year breakeven this morning was about 1.35. Of course, that could be a noisy indicator, but certainly it’s quite low. I would say that, in terms of activity and the relation to inflation, we don’t have to rely on any flat Phillips curves here. We have a global slowdown, and the implications for commodity prices are first order for our inflation forecast. It is never safe to declare inflation under complete control, and I certainly don’t claim that no risks are there; but clearly the outlook for inflation is not looking nearly so threatening as it may have in the past.
On the economic growth side, what is particularly worrisome to me is that, before this latest upsurge in financial stress, we had already seen deceleration in growth, including the declines, for example, in consumer spending. Everyone I know who has looked at it—outside forecasters and the Greenbook producers here at the Board—believes that the financial stress we are seeing now is going to have a significant additional effect on growth. Larry gave some estimates of unemployment above 7 percent for a couple of years. So even putting aside the extraordinary conditions in financial markets, I think the macro outlook has shifted decisively toward output risks and away from inflation risks, and on that basis, I think that a policy move is justified.
I should say that this comes as a surprise to me. I very much expected that we could stay at 2 percent for a long time, and then when the economy began to recover, we could begin to normalize interest rates. But clearly things have gone off in a direction that is quite worrisome. One could legitimately ask questions about the transmission mechanism under these conditions, and I think those are good questions. But first it seems to me that we can, to some extent, offset costs of credit through our actions, even if spreads are wide. Second, to the extent that the global coordination creates some more optimism about the future of the global economy, we may see some improvements in credit spreads. We may not, but it seems to me that this is the right direction in which to go.
Despite everything that’s happening, I might not be bringing this to you at this point, except that we have the opportunity to move jointly with five other major central banks, and I think the coordination and cooperation is a very important element of this proposal. First of all, again, I mentioned before the lurching and the lack of coordination among fiscal authorities and other governments. I think it would be extraordinarily helpful to confidence to show that the world central banks are working closely together, have a similar view of global economic conditions, and are willing to take strong actions to address those conditions. I think that there is a multiplier effect, if you will. Our move, along with these other moves, will have a stronger effect on the global economy and on the U.S. economy than our acting alone. Moving together has other benefits. Just to note one, we can have less concern about the dollar if we’re all moving together and less concern about inflation expectations given that all the banks are moving and all see the same problem.
There is a tactical issue. I think the real key to this is actually the European Central Bank. They have had some difficulty coming to the realization that Europe would be under a great deal of stress and was not going to be decoupled from the United States. They made an important rhetorical step at their last meeting to open the way for a potential cut, but I think that this coordinated action gives them an opportunity to get out of the corner into which they are somewhat painted and their move will have a big impact on global expectations about policy responsiveness. So, again, I think the coordination is a very important part of this.
I want to say once again that I don’t think that monetary policy is going to solve this problem. I don’t think liquidity policy is going to solve this problem. I think the only way out of this is fiscal and perhaps some regulatory and other related policies. But we don’t have that yet. We’re working toward that. We are in a very serious situation. So it seems to me that there is a case for moving now in an attempt to provide some reassurance—it may or may not do so—but in any case, to try to do what we can to make a bridge toward the broader approach to the crisis.
So that’s my recommendation, that we join the other central banks in a 50 basis point move before markets open tomorrow morning.