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Can the Fed Prevent a Recession?

Two former chairmen of the Federal Reserve hold opposing views on whether the U.S. central bank can prevent a recession.

Let's start with an excerpt from Robert Prechter's 2018 edition of Conquer the Crash:

It is nearly impossible to find a treatise on macroeconomics today that does not assert or assume that the Federal Reserve Board has learned to control the credit supply, interest rates, the rate of inflation and the economy. Many people believe that it also possesses immense power to manipulate the stock market.

The very idea that it can do these things is false. Chapter 3 of The Socionomic Theory of Finance demonstrates unequivocally that central banks around the world follow prevailing interest rates; they do not set them. In 2001, before the House and Senate Joint Economic committee, Chairman Alan Greenspan himself called the idea that the Fed could prevent recessions a "puzzling" notion, chalking up such events to exactly what causes them: "human psychology."

By contrast, a Jan. 5 Wall Street Journal article is titled:

Fed Has Many Tools to Deter Recession, Former Chairman Bernanke Says

Here's an article excerpt:

The Federal Reserve has ample tools for fighting a potential recession even though its benchmark interest rate remains historically low, former Fed Chairman Ben Bernanke said.

In a paper presented at a conference in San Diego on Saturday, Mr. Bernanke said asset purchases and public communication--tools that he largely pioneered during the financial crisis--would be effective in jolting the economy in a downturn.

Under the current economic conditions, those methods, known as "quantitative easing" and "forward guidance," represent the equivalent of up to 3 percentage points of cuts in Fed interest rates, he said.

The former chairman's "relatively upbeat conclusion" means the Fed has far more weapons at its disposal than officials realize.

"The old methods won't do," Mr. Bernanke said. "If monetary policy is to remain relevant, policy makers will have to adopt new tools, tactics and frameworks."

The stance of EWI's analysts is that no matter what new "tactics" policy makers or the Fed choose to adopt, they will be powerless to stop a recession or the more severe development of a deflationary depression.

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