The cracks in the Fed's narcissism started to show at Jackson Hole, where Bernanke's speech did nothing for the market; and as the FT points out, the biggest worry on display was whether these bureaucrats, sitting at the heart of every mature economy, still have the power to influence demand. Lurking behind many debates was this question: if central bank policies are so omnipotent effective, why is the global economy not growing faster? Everyone's favorite honest-dwarf Fed Governor, James Bullard, summarized perfectly:
"I am a little – maybe more than a little bit – worried about the future of central banking. We've constantly felt that there would be light at the end of the tunnel and there'd be an opportunity to normalize but it’s not really happening so far."
"What I’m worried about is this creeping politicization."
With monetary financing of governments on the increase (unconditionally by the Fed and conditionally by the ECB), it is clear that more radical options are increasingly mainstream as the textbook is not providing the answers.
Via The FT: Not So Different This Time
There are a few possible reasons why repeated rounds of central bank communication and quantitative easing, as the policy of buying long-dated assets in an effort to drive down long-term interest rates is known, have not brought about a strong recovery.
One is that something structural has changed to hold back growth. Speaking from the floor in Wyoming, Donald Kohn, another former Fed vice-chair now at the Brookings Institution, raised the possibility of “something deeper going on”, perhaps related to savings behaviour or the changed distribution of income between labour and capital.
Another is that the tools work, even if current conditions blunt their effect. If there are new headwinds, then the answer is to use them more aggressively. That is the mainstream view among central bankers.
“A balanced reading of the evidence supports the conclusion that central bank securities purchases have provided meaningful support to the economic recovery while mitigating deflationary risks,” said Ben Bernanke, the Fed chairman, in his remarks at Jackson Hole.
A third possibility is perhaps the most alarming for central bankers such as Mr Bernanke, who have staked their reputations on successive rounds of quantitative easing: that it simply does not work.
In his presentation at Jackson Hole, Columbia University professor Michael Woodford presented evidence that, to the extent asset purchases have lowered long-term interest rates in the US, their effect was indirect. People saw the purchases as a signal that short-term interest rates will stay lower for longer, he argued.
That paper gave the assembled central bankers some food for thought, but will have little bearing on their immediate policy choices.
Woodford's paper (page 83-86 of most note):
If the Fed itself is admitting it is becoming irrelevant and obsolete, then perhaps regimes are changing.