A Major Change to Fiscal Policy
The premise of this piece is the following: the policy role of the federal government in regard to the economy is two-fold: monetary and fiscal.
It has always been regarded that there was a necessity to keep these two roles untangled. We have come to regard the only effective force to be monetary
policy. Bad fiscal policy has been offset by the adept ability of the Fed to conjure a solution to fiscal policy mistakes with monetary policy corrections. It may be time to take a serious look at revising the modus of fiscal policy.
The Government's Role in the Economy
In the United States jobs and GDP are, largely, generated by a coming together of capital with business, business with labor and business with the consumer. The notion that the President generates jobs is almost totally fallacious. This by no means implies that the government's role in the economy is unimportant.
The government's interaction with the economy takes place in three manners. One role is regulatory. The government mandates things such as: minimum wage,
auto safety standards, rules about how many hours a trucker can drive in a week and what seems like a million other things.
Policy
In addition to its regulatory role the government has a policy role. The policy role has generally been viewed with the concept of "separation of powers" as a safeguard.
The two sides to policy are fiscal policy and monetary policy. Fiscal policy is about taxes and spending. Spending is accomplished by a plan which starts with
the administration and is through some process drawn through Congress where something akin to "horse trading" molds it into it final form. The other side
of policy is monetary policy which is under control of the Federal Reserve and involves regulation of the money supply and control of interest rates. The Federal Reserve also has the role which its name would imply - to act as a sort of "bank of banks" which would address the issue of bank runs and confidence in the banking system in general. While not minimizing this part of the Fed it is not of interest in this piece.
Monetary Policy
Monetary policy is the job of the Federal Reserve. It does this with near total independence from the rest of the government. The Federal Reserve does
not get a dollar from the rest of the government. It runs its operations as a business, pays its expenses and gives all of its profit to the Treasury. The
Federal Reserve Banks are organized as if they were private companies and their stock is owned by the member banks but these banks receive none of the
profit. All of the profit goes to the Treasury Department. The ownership of stock is a necessity for membership.
The organizational principle of the Fed is simple. Keep politics out of monetary policy. This has worked quite well.
Fiscal Policy
Fiscal policy is about spending and taxes. The history of spending and taxes is interesting and I will resist one of my verbose rants because
it really does not matter what the history of taxes might be. The solution is not contained in the past. In fact, I make no judgments here about how the government should spend its money or levy taxes.
The proposition that I am making is that not only is the present state of affairs: mild recession post 9/11, tax cuts, Iraq, Katrina, and Rita fiscally untenable but the problem is structural.
I believe that the system of Congress and the Administration controlling fiscal policy with the only check being elections is not working. They craft spending on a year by year basic, tweak taxes every few years and for some mysterious reason the national debt keeps rising.
They create whatever deficit they want and then go to the Federal Reserve like a kid would go to his rich dad and say, "Dad, I'm a little short. Can you lend me $400 billion?" The Fed, of course has two obvious choices: create the money or borrow the money and the fact is that they have been doing a lot of both.
I suggest that we enact legislation to give the Federal Reserve the ability to "just say no." I specifically mean that the Fed should have the legal ability to, in essence, veto the entire budget by telling Congress and the President to "try again." Congress would then have to either raise taxes, reduce spending or a combination of
the two. The Fed could indicate what level of deficit was acceptable.
There are variations on this. If Congress and the administration do not want the responsibility/blame for increasing taxes they can enact legislature to allow the Federal
Reserve to decree a surtax. The fairest way to do this might be to insist that any Federal Reserve instigated surtax apply uniformly (percentage wise) to personal income tax, corporate tax, and certain excise taxes. Those are details. I am not presenting details here, merely the concept of modifying who is responsible for fiscal policy.
Note that it is not necessary that the Fed be able to review the budget/tax plan and suggest "before the fact" changes. This legislated policy might involve a surtax one year to accommodate the imbalance of the previous year's budget.
The advantage with this method is that the presumption is that the Fed is in the best position to decide how to make up the budget shortfall but now has three
choices (print, borrow, surtax) instead of two (print, borrow). Also, this puts a bit of negative feedback into the system which would, hopefully, discourage pork. The presumption is that the Fed's goals: GDP growth, jobs growth, low interest rates and a healthy value of the dollar would not be compromised by its new role but rather enhanced.
Not Just About Hikes
This is not a one-way street. If the Fed felt that taxes were too high and the economy would do better in the long-run with a year of deficit then it could dictate lower taxes or refunds.
The Fed is able to make "unpopular" decisions such as raising interest rates because it is well-insulated from the public. Members serve terms which cross
many administrations.
It is my belief that the Fed is better able to make objective decisions about the economy than either the administration, the Congress or both combined.
What's Wrong With This?
The thing that strikes me is that there is risk here. The risk of breaking down the wall between fiscal and monetary policy could undermine the present successful role that the Fed has in monetary policy. If the Fed gets politicized we could be in trouble.
My belief is that there is a de facto crossing of the line dividing fiscal and monetary policy. Budgets left unbalanced by the administration and Congress necessitate
changes in monetary policy to accommodate the imbalance. My suggestion here is that the Fed restore balance by not letting fiscal irresponsibility dictate monetary policy.
Selling This
The ability of a plan such as this to succeed is partly about perception. The public must understand the role of the Federal Reserve. Congress and the Administration cannot make this look like a Seven-step Plan even though it may well be. Not only must the details for fiscal responsibility be worked out but they also need to be packaged correctly.
None of what I have said has anything to do with Democrats or Republicans. It has no implications as to how much money should be spent and what taxes should be. It is an attempt to achieve responsible fiscal policy and economic health.
Dick Lepre, San Francisco