The stock market rose Wednesday in anticipation of Federal Reserve Board Chairman Ben Bernanke’s remarks Thursday. Traders sold Treasury bonds and bought stocks, hoping Bernanke would announce a new monetary stimulus.
They were sorely disappointed.
Speaking to the Joint Economic Committee of Congress, Bernanke emphasized that the Fed has America’s monetary house in order: Inflation is low, and monetary policy is already turned up to “11” to encourage investment. Now, Bernanke stressed, it is Congress’s turn to act.
America’s fiscal policies—not its monetary policies—are holding back the economic recovery.
Bernanke outlined three objectives for Congress:
- Bring the long-run budget toward balance;
- Prevent the “fiscal cliff”—Taxmageddon—at the start of 2013; and
- Improve economic incentives to promote long-run growth.
On the third point, Bernanke told the committee that “tax and spending policies should increase incentives to work and save, encourage investments in workforce skills, stimulate private capital formation, promote research and development, and provide necessary public infrastructure.” The biggest disincentive to work, savings, and skill investments is taxation.
Freeing Americans to enjoy and invest their own earnings will stimulate the economy to long-run growth. Not even paleo-Keynesians would believe that government deficits can do that.
The Fed Chairman concluded by warning Congress: “We cannot expect our economy to grow its way out of federal budget imbalances without significant adjustment in fiscal policies.”
If Congress is going to attempt to address these challenges, it can do so only by significantly cutting spending and preventing a 2013 tax rate increase. Doing nothing would fail on all three counts. Raising taxes might address the first problem, at least in the short term, but would exacerbate the other two. Cutting spending would address the first problem and leave Congress the freedom to later address the third, but would not prevent a Taxmaggedon-induced recession.
Anticipating these challenges, Heritage has prepared a first-rate plan for reining in the drivers of the deficit and supporting stronger economic growth: Saving the American Dream, Heritage’s comprehensive fiscal plan.
With vast improvements in Fed monetary policy know-how over the last several decades, Congress has become reliant on the Fed as the first responder to economic trouble. But monetary policy has real limits, and Congress cannot avoid its own responsibility for the fiscal state of the economy or the perverse incentives enshrined in federal law.