Reading Ben Bernanke’s speech today, I’m reminded of a guy stopped at the corner asking for directions. “Should I go left or right,” he’s wondering, weighing the pros and cons of each. Someone shows up and he asks him for directions. The natural response: “Are you trying to get uptown or downtown.” Turns out he doesn’t know! And that’s why he can’t make up his mind.
Similarly, this morning Bernanke laid out some costs and benefits to “further action” (by which he means bond purchases) first stopping to consider what kind of outcomes he would favor. That’s the point of this flowchart.
So what are the options? Well, obviously if you don’t want faster growth you don’t need to do anything. But if you do want faster growth and you’re also a central bank with a price stability mandate, you have to ask yourself if you think faster inflation is a price worth paying. If the answer is “no” then you ought to say that clearly and tell elected officials that they’d better come up with some supply side reforms. More demand’s not in the cards, and all the central bank is willing to do is say that if structural reforms happen you’ll make sure they don’t lead to a slowing of inflation. But if you are willing to tolerate more inflation then, again, the first step is to say that clearly. Maybe you should also make some asset purchases. But you should be clear—both to yourself and to the public—about what you’re trying to do. You’re trying to boost demand. You think a boost to demand will boost real output. And you know that a boost to demand will increase some prices somewhat. But you think that’s a small price to pay for the real growth. So here come the asset purchases with more to come if necessary.