In early 2013, Mike Konczal wrote the following:
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In Beckworth and Ponnuru’s view, the Federal Reserve still had plenty of room to boost the economy. Not only would fiscal tightening be good over the long haul, but it would force the Fed to act. And they argued that as long as the Fed is working to offset austerity, the country “won’t suffer from spending cuts
So how has this experiment unfolded since then? Has the Fed been able to offset the fiscal drag? Michael Darda, Chief Economist of MKM Partners, has the answer:
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Many observers late last year were of the mindset that the fiscal cliff and/or sequester would either throw the U.S. economy back into recession, or slow it materially. It has done neither because, in our view, the Fed has offset it. ....
Several points to note. First, the Fed has been offsetting since 2010 a tightening of the structural budget balance as a percent of potential GDP. In my opinion, that is an even more impressive feat. Second, its ability to do so demonstrates that monetary policy is still effective at the zero lower bound. Third, it is amazing that so many people were predicting a recession in 2013 because of the sequester. They did not take seriously the possibility QE3 could offset the fiscal drag. I am waiting for their mea culpa.
The idea here is that government went budget cutting and tax hiking (especially in California). That should have slowed down the economy. That basic assumption is false if government was originally causing congestion in the economy. I have cause and effect different. Austerity gave the Fed a break. The entire, unexpected run up in 2013 was austerity driven.
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