The best way to think about the Federal Reserve is that it basically has a superpower. It can create as much money as it wants. Real, American money.
Fed governors don’t need anybody’s permission; they don’t need 60 votes in the Senate — they just do it. And that makes them incredibly powerful. It’s not like when the president says he wants to do something, like the American Jobs Act, and you have to ask, “What does Congress think?” Or when John Boehner wants to pass something, and you have to ask, “Well, what does Harry Reid think?” The Fed can just do it.
But, as Spider-Man would say, with great power comes great responsibility. And so the Fed is very cautious in using its powers. By law, it needs to try to keep unemployment and inflation low. Over the past two years or so, inflation has stayed low, and unemployment has been very, very high. But the Fed has not been doing all that much about it.
On Thursday, Fed Chairman Ben Bernanke said the Fed had finally decided to do something about unemployment. Something big. Something that might actually work.
He said it was going to buy hundreds of billions of dollars’ worth of government and housing bonds for as long as it takes to get the recovery back on a solid footing, and then as long as it takes to be absolutely certain the recovery will stay on a solid footing.
The way the Fed’s plan works — if it works — is that buying all these bonds will drive down long-term interest rates, which will give businesses and investors more incentive to spend now as opposed to sitting on their money waiting for later. It will make mortgages even cheaper, which should accelerate the housing market’s recovery.
But the other part of the plan, and this part is really important, is that Bernanke just sent a signal to businesses and investors and the market and everyone else that the Fed is going to use its powers in a big, unusual way to get the economy moving. That’s a hugely important statement to make.
Imagine a business trying to decide whether it should hire more workers. The basic question it needs to answer is whether people will be buying a lot more stuff next year than they’re buying this year. If business owners don’t see any good reason to think the economy will improve, then the answer is probably “No, people aren’t going to be buying more stuff next year,” so there’s no need to hire more workers.
But if they think the recovery is going to come, if they think people will be buying more stuff, then they need the workers. They don’t want to be caught without enough product — then their competitors would get all the sales. And what the Fed is doing is trying to influence that expectation. Fed officials are saying: “We’re going to use all our power to make sure there are people out there buying your stuff. So go hire. Do it now. We’re behind you.”
Think of it this way. The Federal Reserve is kind of like the economy’s tough, older friend. If the economy is having problems with some kids at school, and the tough, older friend seems distant, or uninterested, then the economy’s in trouble.
But if the tough, older friend makes it clear that he’ll be there to back up the economy, come what may, and even says that he’s going to go have a talk with some of these kids tomorrow, then the economy is going to be a lot more confident walking to school from now on. And right now, what the economy needs, more than anything, is confidence.
For previous Ezra Klein columns, go to postbusiness.com.