I want to pose a thought experiment here. Suppose that a hurricane comes along and wipes out every oil ring in the Gulf of Mexico, and then suppose that the price of gasoline explodes as a result. Alternatively, suppose that Congress passes the Fossil Fuels Ban of 2012 that phases out fossil fuels over 5 years, effective as soon as the law is signed by the President regardless of the economy’s preparedness for the demise of fossil fuels. Would the subsequent effect on prices have anything to do at all with monetary policy and is monetary policy responsible for every disturbance in price equilibrium?
The obvious answer is absolutely and unequivocally no.
We have all kinds of supply-side issues in our economy that effect the prices of everything we buy, assuming that we have even anything close to “normal” monetary conditions; and they would still do so even if we had a neutral monetary policy. Yet, we seem to have quite a bit of hysteria on the right over monetary policy changes as if it is responsible for every price increase and a high degree of finger pointing at the Humphrey-Hawkins Act as a travesty of justice.
I have explained the meaning of the Humphrey-Hawkins Act in the context of the amendments to the Federal Reserve Act here and here. But I’m going to go into the history of it a little more to explain that the reason we are in the mess we are in is because major branches of government, including Congress and the President, have been ignoring it for at least a decade (in addition to the occasion of natural incidents, such as drought that cannot be prevented).
Part of the inflation and unemployment problems in the United States in the decade of the 1970’s was erratic growth in monetary aggregates, but one of the other parts was out of control government. It was an Old Keynesian economy. Government was being used to regulate nearly everything, needed or not, programs for this problem or that one, complete with price controls and other nonsensical regulation, and inflation was used as a means to both finance big government and cover the negative supply-side effects. Humphrey-Hawkins was a legislative realization of the real effects of both supply-side and monetary inefficiencies, and it sought to coordinate all departments of government, including the Federal Reserve, to bring government actions in line with real economic realities and keep it from becoming the major problem in the economy rather than a help
In many respects, the Humphrey-Hawkins Full Employment and Balanced Growth Act was the basis of Ronald Reagan’s 1980 campaign, and he spearheaded efforts to implement it when the political will to do so in Congress was lacking.
The first deviation from Humphrey-Hawkins on the part of the Federal Reserve that landed us in a mess was during the recession of 2001 when growth of nominal aggregates fell below trend and was not returned to trend until 2005. It was violated again, more severely in 2007, when nominal aggregates started down the road to collapse that was completed in 2009 and included a financial crisis, leaving the economy at least 15% below the trend growth rate. It’s called nominal shocks that aren’t compensated for, and they have real effects on economic activity, including demand and employment.
But just as in the 1970’s, the Federal Reserve is only part of the problem. We have many other problems that impact prices. Some of them are residuals from the 1970’s Old Keynesian economy, things that never got cleaned up, like the EPA, no free markets in energy, just to name a couple of them. We also added things that squash competition and add nothing to soundness of market functioning, like Sarbanes-Oxley, Dodd-Frank, and the death of investment banking hasn’t helped. In addition, we had government fostering a regulatory boondoggle that sucked trillions of potentially productive capital into mortgage loans, many that ultimately went bad; and there is an enormous opportunity cost that comes with doing that.
None of these things are consistent with the intent and spirit of Humphrey-Hawkins. Instead of repealing it, it needs to be enforced always and everywhere if we value low prices, free markets, and an opportunity society that expects self-sufficiency of every member. We don’t want to give hand outs, but legs up, and we expect everyone to contribute to the productivity of the nation as a whole while ensuring the plentiful opportunities to do so by keeping government from killing jobs and stifling markets.