Debate Club (U.S. News & World Report), July 20, 2012
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The Fed needs to do more to help create employment in the United States, because we have more than 23 million people who are unemployed, underemployed, or have given up looking for work. This is the most important national economic problem, because it damages and even ruins millions of peoples’ lives. Additional quantitative easing could help, but it needs to be combined with further measures that the Fed can and should take.
Chief among these is for the Fed to target a higher rate of inflation, as a number of economists including Paul Krugman and Dean Baker have argued. The Fed’s current target of 2 percent is too low. A higher expected (but still quite reasonable) rate of inflation, e.g. 3 or even 4 percent, would convince many investors that it is too costly to park their money in cash or near-cash equivalents. This would increase investment and employment. A higher inflation rate would also improve the situation of millions of homeowners, as the value of their homes would rise while – for most – mortgage payments would remain fixed. Other debtors would also see a reduction in their real debt burden, which would stimulate spending. It must be remembered the main cause of America’s economic weakness right now (with growth slowing again this year) is inadequate demand.
More quantitative easing and a higher inflation target would also boost the economy by lowering the value of the dollar against other currencies, thereby reducing imports and increasing exports. Also, when the Fed creates money to by U.S. debt – as it has to the tune of $2.3 trillion since 2008 – it reduces the net debt burden of the federal government, because the interest payments on that debt go back to the U.S. Treasury. The most effective policy would have the Federal government use this additional fiscal space to spend more money to directly create jobs, including aid to state and local governments that have been reducing employment. But superstition and political nonsense about the debt, as well as about inflation, has so far triumphed over basic accounting and economics.
Of course there is a limit to what another round of QE can do by itself, with long-term interest rates (including home mortgage rates) at record lows. That is why other measures, including a higher inflation target and expansionary fiscal policy, are needed.