When Janet Yellen faced Congressional questioning on February 11th for the first time as the newly minted Federal Reserve Chair, it was against a backdrop of precarious economic health.
Just days prior to her inaugural hearing before the House Financial Services Committee, the Labor Department had released another lackluster jobs report, suggesting that the US recovery may be weaker than many experts anticipated. In addition, the long-planned reduction – or taper – in the Fed’s stimulus program had shaken international emerging markets and raising global fears of a bursting bubble.
Congress wasted no time pressing her on all of these issues – and it is clear that the Fed’s first female Chair will have little, if any, honeymoon period. Markets, too, are looking to Yellen to provide guidance on how and when the Fed will execute the taper. In her first press conference as Fed Chair last week, Yellen spooked traders by implying that the Fed would begin to raise interest rates in as little as six months. Even though her answer was purposely vague and open to revision, stocks fell and rates rose as markets absorbed what they considered to be the bad news.
But it is also clear that Yellen will not shrink from continuing the Fed’s extraordinary measures to bolster the US recovery. In her hearing, she drove home her view that the labor market recovery, in particular, is “far from complete.” Indeed, after Ben Bernanke’s eventful eight years at the helm, Yellen will be inheriting a Fed which has taken a more activist stance towards fighting recession and financial collapse than perhaps ever before – with all the inevitable controversy that entails.
Yet to an underappreciated extent, the central bank has been left to fight the recession on its own. Chairman Bernanke was forced to push monetary policy to its limit because the only other institution that could make a difference – the US Congress – has been largely unable to provide legislative responses to help boost economic growth or improve the labor market.
The Fed has stretched its intellectual and institutional resources to the limit in fighting the recession. The Bernanke-led Fed launched unprecedented policy measures, the centerpiece of which was the $3 trillion bond-buying program known as Quantitative Easing (QE). Estimated at putting about $85 billion of liquidity into the economy each month, QE was itself necessary only because the Fed had already pushed interest rates to the lower zero bound.
In addition to QE, the Fed took another unusual step by softening its stance toward inflation. In order to set growth-oriented expectations, the bank issued an explicit inflation target of 2 percent, and vowed that its unorthodox monetary policy would continue until that target was reached or unemployment fell to an acceptable level.
Yellen seems a perfect fit for these uncertain times. Much of her academic career has been spent studying the root causes of unemployment and how central banks should respond to it. She has argued persuasively that the Fed must sometimes focus its firepower on reducing persistent unemployment, even if it means accepting moderately higher inflation. From her position on the Federal Reserve board since 2010, she helped build consensus for the current inflation target.
Thus, while Congress presses Chairwoman Yellen for answers, the unresolved question remains if those same legislators will take action to back up the Fed’s own approach. Even the savviest Fed leader can only do so much on her own, and at some point, Congress will need to make the kind of investments America needs to return to sustained growth.
Unfortunately, growth is still anemic, inequality is at record levels, and unemployment has been reduced below 7 percent only due to large chunks of the population dropping out of the labor force. Meanwhile, the sequester and other spending cuts have led to mounting public sector job losses and contracted the economy further.
Given that the US’ problems continue to be based on weak demand, one clear option for Congress is to get more money into the hands of consumers. Thus, the push among Congressional Democrats for a national minimum wage increase. In real terms, the minimum wage is lower now than it was in the 1960s, and much of the available evidence suggests that raising it will give workers higher purchasing power with little, if any, negative impact on hiring.
Other potential initiatives await consideration as well. Many economists suggest, for instance, that raising the Earned Income Tax Credit (EITC) for large families would be one of the most cost effective ways to put more money into the hands of struggling workers and thus bolstering consumer demand.
Then there is the nationwide backlog of infrastructure and transportation projects, which would not only provide millions of jobs directly, but which are also critical to facilitate all types of economic activity.
Janet Yellen is not only a brilliant scholar, but also someone with an understanding of the real world costs of economic stagnation and long-term unemployment. As Fed Chair, she will surely bring all her resources to bear on the problem. But it remains to be seen if the Fed’s actions will be paired with coordinated action from US lawmakers.