Rolf Englund IntCom internetional
Fed is providing more dollar liquidity to prevent a steeper decline in GDP
To put it in monetary policy terms, the Fed is boosting the supply of money to offset the decline in velocity,
The supply of money times the velocity of money will equal the price level (inflation) times transactions, also known as economic output.
There is of course a danger in this, as Mr. Bernanke may recall from 2002 and 2003. That's when the Fed last worried about deflation and it's also the last time the Fed cut the fed funds rate to 1% and kept it there for a full year through June 2004.
Mr. Bernanke was a Fed governor (though not yet Chairman) at the time, and he and Alan Greenspan still don't admit this was a mistake.
The larger policy point is that it is a mistake to rely on the Fed and monetary policy to do too much. Mr. Bernanke's main obligation is price stability.
And if our politicians want to avoid a deep recession, they have fiscal policy -- specifically, the economy could now use a big, immediate and permanent cut in marginal tax rates. That would help to spur incentives to invest, as well as increase money velocity. We realize this policy mix isn't popular among the Democrats who expect to inherit all federal power next week. They're still proposing to raise taxes substantially amid a recession, and their only proposed stimulus is as much as $300 billion in new spending.