No Exit: The Case for $6 Trillion More Monetary Stimulus

December 4, 2009 10:00 AM

A lively debate is under way between those who want more fiscal stimulus to create jobs and those who worry that our national debt is already too high. Both sides are ignoring the obvious alternative—one that would create jobs and lower the deficit. In a newly-posted Policy Brief, I present the argument for easier monetary policy in all the main developed economies.

As the latest data show, the economies of the United States, the euro area, Japan, and the United Kingdom are suffering from historically high rates of unemployment. In all four economies, the overwhelming majority of forecasters see weak economic growth and lackluster job creation over the next two to three years. In Washington, the Obama administration has just held a Jobs Summit, underscoring the concern about how to put more Americans back to work. Clearly, we need more macroeconomic stimulus to reduce the suffering and allay the long-term damage caused by persistent unemployment as well as to ward off the risk of harmful deflation. But record peacetime fiscal deficits and rapidly rising public debt point to monetary policy, rather than fiscal policy, as the way to go.

Short-term interest rates already have been reduced to near zero. But the Federal Reserve and its counterparts have other tools to use for monetary stimulus. Over the past year, the Federal Reserve and the Bank of England have pushed down long-term borrowing costs for both the public and private sectors through their large-scale purchases of long-term bonds. There is considerable scope for additional purchases to drive borrowing costs even lower. The European Central Bank and the Bank of Japan should join the Federal Reserve and the Bank of England in combined purchases of an additional $6 trillion in long-term bonds designed to push 10-year bond yields down another 75 basis points. At a time of concern about fiscal deficits, it is important to note that reducing yields on government debt actually reduces the federal deficit. Reducing yields on private debt will also speed the repair of private sector balance sheets and encourage businesses to invest and expand employment. A more rapid recovery further reduces fiscal deficits by raising revenues.

It is time to stop arguing about tradeoffs. Monetary policy can create jobs and reduce the deficit at the same time.