The Federal Reserve should still increase the federal-funds rate in September.
A quarter-point fed-funds rate is so small compared to a likely neutral fed-funds rate of between 3 percent to 4 percent that this increase would still maintain a massively accommodating monetary policy. The market has been expecting an increase for some time and the Fed has also been signaling it. When the market expects the Fed to do something that eventually the Fed must do, the Fed should do it as soon as possible.
The most likely objection to a September increase is that the Fed is worried about deflation and therefore has set a 2-percent inflation goal, which is unlikely to be achieved in the near future. But that is the wrong goal. First of all, given all the technological changes, improvements and innovations occurring in products we purchase today, how can anyone even measure inflation accurately? Secondly, low inflation has been helpful to our economy because although wages have been low, inflation has been even lower, increasing the purchasing power for the average American worker.
The Fed is right to worry about the dangers of deflation. Deflation occurs when consumers have money to spend but don't spend it because they expect prices to decline in the future, which increases the savings rate. If this becomes widespread, economic output falls and a deep and a prolonged recession or even a depression could occur. But the metric that the Fed should be watching to detect the possibility of deflation is not the inflation rate but rather the savings rate. If the savings rate increases beyond normal levels, that would be a danger sign. Thus far, the savings rate has been well within historical norms. Also, consumer purchasing power has been the strongest component of economic growth over the past few years. Neither result suggests a significant risk of deflation.
Fiscal and monetary policy makers should not be focused on increased inflation. They should be focused on growing our GDP at a 3 percent or greater rate. To achieve this, in addition to a fed-funds increase, the administration and Congress should agree to lower marginal individual and corporate tax rates in a revenue-neutral way by:
- Deleting most all tax deductions
- Imposing a 15-percent tax surcharge on corporations repatriating dollar deposits held overseas generating $300 billion in revenue to refund the highway trust fund
- Increasing defense spending
- Investing in new infrastructure projects
- Eliminating job-killing regulations that are stifling productivity
- Building the Keystone Pipeline
- Allowing the export of gas and oil
- Passing free-trade agreements with Asia and Europe
- Adopting a pro-growth immigration policy that includes increasing H1B visa approvals to at least 250,000 a year, a guest-worker program that meets the needs of our agricultural industry, and green cards for all foreign students who have graduate degrees in science, technology, engineering, and math, with the promise of citizenship after three years of working and living responsibly in our country.
Economic growth of 3 percent or more should be a bipartisan goal as it is essential to increasing the labor-participation rate, increasing jobs and wages, and funding both entitlements and national defense.
Richard M. Kovacevich, the former chairman and CEO of Wells Fargo.