COVID-19: Implications for Monetary Policy and Fed Independence

ConclusionThe COVID-19 pandemic has led to an unprecedented expansion of Fed power and discretion. It has led to the transfer of fiscal responsibility to the Fed and weakened the Fed ' s independence. The drift into fiscal policy and credit allocation —as opposed to pure monetary policy (i.e., allowing the size of the balance sheet to influence money, prices, and nominal GDP)—places the Fed in a precarious position. The lack of a rules-based monetary regime increases uncertainty and opens the Fed to further politicization. Too much is asked o f monetary policy and too little responsibility is placed on Congress for difficult fiscal decisions.After the 2007 –09 financial crisis, the Fed failed to fully normalize its balance sheet and, in setting its policy rate, it stuck with the" floor system "that was first instituted in October 2008. That system has allowed the Fed to respond to COVID-19 by massively expanding its balance sheet without fueling inflation. Meanwhile, the Fed ' s off-balance sheet lending programs, created under the authority ofSection 13 (3)of the Federal Reserve Act, have been dramatically expanded in response to the pandemic.The challenge, in the wake of COVID-19, will be to limit the Fed to its proper role of providing monetary stability, while allowing competitive capital markets to freely set interest rates and allocate funds. To meet that challenge, according toPlosser, means:The Fed should not be allowed to engage in fiscal policy actions that ri...
Source: Cato-at-liberty - Category: American Health Authors: Source Type: blogs