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Daniel Ben-Ami: End the monetary addiction

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Market commentators have largely missed the true significance of the US Fed’s rate increase, argues Daniel Ben-Ami

There is an old journalistic adage that should be applied to the US Federal Reserve’s decision to raise interest rates by one-quarter of a percentage point: if a dog bites a man, it’s not news, but if a man bites a dog, it’s news.

By that criterion, the Fed decision is clearly not news, as it was almost universally expected. It was not much more newsworthy than the sun rising in the morning or Christmas day falling on 25 December.

Those commentators who have given the decision such obsessive attention – usually in statements written before the announcement itself – have generally missed its true significance. What is striking is not that the Fed has just edged up rates but that it is still engaging in extraordinary monetary policy.

Not only are rates still low by historical standards, but the US central bank has yet to start scaling back on quantitative easing (QE). Although it ceased expanding its bond buying programme in late 2014, it has not starting reducing its hugely inflated balance sheet.

That means what was supposed to be extraordinary has become ordinary. The emergency measures introduced to prop up the economy in response to the onset of financial crisis in 2008 have become routine.

This process is reminiscent of the British policy of treating heroin addicts by getting them hooked on methadone. It simply replaces the addiction to one dangerous drug with addiction to another. Such ‘treatment’ undermines the capacity of the individual to recover by overcoming their addiction.

The weakness of the US economy is missed mainly because commentators tend to take an absurdly short-term view. Often they focus on the last day or month rather than understanding developments from the perspective of years or decades.

From a longer-term perspective, it should be clear the US suffers from serious weaknesses. Business investment is low, productivity growth is weak, and innovation is muted. The economy needs a radical restructuring if it is to regain its lost dynamism. This means allowing weaker companies and sectors to fade while encouraging new areas to develop.

Extraordinary monetary policy undermines the potential for recovery. Rather than promoting an economic overhaul, it allows it to be postponed indefinitely. It also leads to an overestimation of the importance of monetary factors and a gross neglect of the real world of production. Rather than solving problems, it simply make matters worse. It creates the basis for greater financial volatility, protracted economic lethargy and more social dislocation.

If anything, the situation in Europe is even worse. Not only is it in many respects more lethargic than the US but it is still at the stage where the euro-zone is expanding QE.

This failure to grapple with economic challenges on both sides of the Atlantic is a tragedy because, in many respects, there is positive potential. Rapid growth in the emerging economies has created new markets and new opportunities. There is ample liquidity in the economy that could be put to productive use. Many companies could be encouraged to invest productively rather than simply sit on huge piles of cash. Many new technologies could be harnessed much more effectively.

The misconceived experiment with extraordinary monetary policy should be ended now. We need to overcome the failure of imagination preventing us from taking the necessary steps to create a new round of economic expansion. The monetary junkies are blocking the road to prosperity.

Daniel Ben-Ami is deputy editor at IPE

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