The Fed seeks sustainable growth

The Federal Reserve’s latest effort to improve the economy is drawing plenty of criticism from conservatives and “sound money” advocates, who warn about the potential for more inflation and asset bubbles. The critics have a point: The Fed’s attempts to keep interest rates low far into the future pose real risks and costs, especially to retirees living off their savings. But in the face of stubbornly high unemployment, and with Congress doing so little, we welcome the Fed using what few tools it has to try to promote economic growth.

The central bank has two congressionally mandated missions: to keep prices stable and unemployment low. To do so, it buys securities from banks using newly printed money, which increases the amount of money in the system, or it sells some of the assets it has bought, shrinking the money supply. It typically targets short-term interest rates, but it may also try to pump more cash onto bank balance sheets by buying longer-term financial assets. The goals of such “quantitative easing” include lowering long-term interest rates and encouraging banks to lend more.

The Fed tried quantitative easing in 2008 and 2010, but the payoff in each case was a short-lived growth spurt. Last week, the central bank announced a third round of easing with a significant new feature: Unlike the previous efforts, there was no predetermined time or dollar limit on its intervention. Instead, the Fed said it would buy $40 billion in mortgage-backed securities each month until the employment situation improved “significantly.”

Noting the open-ended commitment to pump money into the economy, critics said the Fed was encouraging runaway inflation, another disastrous Wall Street bubble or both. The inflation doomsayers have been wrong so far; although prices for oil and some other commodities are high, inflation has remained in check, with the 10-year forecast well below 3%. The longer the Fed keeps the monetary spigot open, however, the more it encourages excessive borrowing and risk-taking, and the more likely the fears of inflation will become reality. Eventually, the Fed will have to push interest rates up, driving up borrowing costs and the federal deficit. And in the meantime, exceptionally low interest rates are penalizing those whose investments are in low-risk government bonds or savings accounts.

That’s not to say that the Fed is heedless about the risks of its actions, or the costs they impose. The central bank made an open-ended commitment to easing because it’s more likely to yield sustainable growth than efforts that are advertised as temporary. Nor does Fed Chairman Ben S. Bernanke seem to overestimate the central bank’s capabilities. Congress can do more with its spending and tax powers to revive the economy. But with Democrats and Republicans bitterly divided about the nature of the problem, let alone the solution, there’s no chance that lawmakers will step off the sidelines before November’s election — and not much chance of any dramatic steps for months to come.

That leaves the Fed as the only source of help for an economy in which too many businesses are loath to expand and consumers are reluctant to spend. We count on the Fed to take its foot off the gas when the economy overheats, but at the moment that problem seems remote. And although there are more direct, less risky ways for Congress to boost the economy, at least the Fed is trying.