Stephen Foley: Only the Federal Reserve can jump-start the recovery at this stage


US Outlook: Is the financial market tail wagging the economic dog?

The reaction to yesterday's poor US employment figures sent the Dow Jones Industrial Average down more than 130 points at its worst, and the equity market here has made basically no progress at all this year. In the credit markets, spreads have not returned to their narrowest levels before the freak-out over European sovereign debt in the spring.

This, despite the fact that the global economy and the US economy are each progressing along the recovery track that had been expected, at least so far, and demand from consumers and business customers has not taken a turn that would indicate anything like a double-dip recession.

The underperformance of the financial markets is becoming a problem. It has sapped the confidence of American business leaders and has a real impact on the cost of capital, both of which are holding back investment and job creation. After a strong start to 2010, private sector job growth is now running consistently below the roughly 100,000 per month level that economists say is needed to start bringing unemployment down.

Businesses are still making their employees work longer hours and average earnings are going up, so yesterday's numbers from the Labour Department show a more nuanced picture than the missed-expectations of the headline number.

But the reluctance to hire shows – more concretely than any survey, although most of those show the same thing – that uncertainty over the future is trumping relatively sanguine current conditions. As Tim Geithner, the US Treasury Secretary, likes to say, business leaders are still traumatised by the credit crisis. Hoarding cash and strengthening corporate balance sheets is also an economically rational move, given what we have learnt about how quickly access to capital can vanish, and businesses should not return to running a just-in-time financing model reliant on continual access to the money markets.

But we would be running out of patience with the "time heals everything" approach to the private sector recovery around now, even if financial markets weren't putting downward pressure on the economy.

Policymakers need to look at where to place the electrodes for some quick electric shock treatment for the private sector.

If only the federal government was functional. There could be some easy hits were the Obama administration and Congress able to introduce some business-friendly tax gesture. A change of tone in the White House would be helpful too, since the notion that it is somehow "anti-business" has seeped into the received wisdom.

But there are more vital matters that look likely to swamp these efforts. Reports in Washington last night were suggesting that House of Representatives Democrats might be going wobbly on the $26bn (£16bn) aid package to state and local governments, designed to keep local teachers, firefighters and policemen in their jobs.

If that measure failed, it really would introduce austerity to the US. The 50 states' budgetary problems were behind the shockingly high public sector lay-off figures in the July jobs report.

The partisan battles over fiscal measures are so intense here that there can be no consensus on the economic effectiveness of any particular plan, and that means they are pretty poor as the basis for a restoration of confidence.

Once again, we must look to the Federal Reserve. Since the electrodes are best placed as far away from the political arena as possible, and because the financial markets belie a lot of the caution being felt across corporate America, a lot hinges on next week's meeting of the Federal Open Market Committee. The absence of inflation in the US economy gives the Fed a great deal more room for manoeuvre than, say, the Bank of England. Ben Bernanke, the Fed's chairman, would be in no danger of having to write a letter explaining himself, even if he had acted on his urge to set a formal inflation target.

An extension of sorts of last year's quantitative easing is on the agenda. The Fed bought $1.1trn of mortgage-backed securities to push down mortgage rates and boost the housing market, and is considering changing its policy with regard to that portfolio.

The Fed has allowed the portfolio to shrink as the bonds get paid off, but is considering, instead, reinvesting the cash in more mortgage-backed securities, a move that will neutralise what is otherwise modestly contractionary monetary policy.

All the smoke signals were that change will be approved on Tuesday, precisely because it is a technical and uncontroversial-sounding plan. But it would seem to me to be a missed opportunity.

Boosting the housing market is not the priority right now. By shifting the money from mortgages into the purchase of US Treasuries, the Fed would ease conditions for businesses more generally, and signal that it sees Treasury-based quantitative easing as an insurance policy against a double-dip or deflationary economy.

Not for the first time, the US economy needs bold moves from the Fed, because politicians here seem unable to get their act together.

PROMOTED VIDEO
News
video
Life and Style
tech
Arts and Entertainment
Southern charm: Nicolas Cage and Tye Sheridan in ‘Joe’
filmReview: Actor delivers astonishing performance in low budget drama
Arts and Entertainment
While many films were released, few managed to match the success of James Bond blockbuster 'Skyfall'
film
Arts and Entertainment
Up my street: The residents of the elegant Moray Place in Edinburgh's Georgian New Town
tvBBC's The Secret History of Our Streets reveals a fascinating window into Britain's past
Extras
indybest
News
Albus Dumbledore, the headmaster of Hogwarts School of Witchcraft and Wizardry has been the teaching profession's favourite teacher
education
News
ebookA unique anthology of reporting and analysis of a crucial period of history
Sport
Luis Suarez looks towards the crowd during the 2-1 victory over England
sport
Life and Style
Cheesecake frozen yoghurt by Constance and Mathilde Lorenzi
food + drinkThink outside the cool box for this summer’s frozen treats
News
John Barrowman kisses his male “bride” at a mock Gretna Green during the Commonwealth Games opening ceremony
peopleBarrowman's opening ceremony message to Commonwealth countries where he would be sent to prison for being gay
Sport
Sir Bradley Wiggins removes his silver medal after the podium ceremony for the men’s 4,000m team pursuit in Glasgow yesterday
Commonwealth games Disappointment for Sir Bradley in team pursuit final as England are forced to settle for silver
Sport
Alistair Brownlee (right) celebrates with his gold medal after winning the men’s triathlon alongside brother Jonny (left), who got silver
England's Jodie Stimpson won the women’s triathlon in the morning
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Junior Research Analyst - Recruitment Resourcer

£18000 - £20000 per annum + OTE £25K: SThree: SThree Group has been well estab...

Senior Analyst - Financial Modelling

competitive: Progressive Recruitment: This really is a fantastic chance to joi...

Associate CXL Consultant

£40000 - £60000 per annum + BONUS + BENEFITS: Harrington Starr: CXL, Triple Po...

Business Anaylst

£60000 - £75000 per annum + BONUS + BENEFITS: Harrington Starr: Business Anal...

Day In a Page

Backhanders, bribery and abuses of power have soared in China as economy surges

Bribery and abuses of power soar in China

The bribery is fuelled by the surge in China's economy but the rules of corruption are subtle and unspoken, finds Evan Osnos, as he learns the dark arts from a master
Commonwealth Games 2014: Highland terriers stole the show at the opening ceremony

Highland terriers steal the show at opening ceremony

Gillian Orr explores why a dog loved by film stars and presidents is finally having its day
German art world rocked as artists use renowned fat sculpture to distil schnapps

Brewing the fat from artwork angers widow of sculptor

Part of Joseph Beuys' 1982 sculpture 'Fettecke' used to distil schnapps
BBC's The Secret History of Our Streets reveals a fascinating window into Britain's past

BBC takes viewers back down memory lane

The Secret History of Our Streets, which returns with three films looking at Scottish streets, is the inverse of Benefits Street - delivering warmth instead of cynicism
Joe, film review: Nicolas Cage delivers an astonishing performance in low budget drama

Nicolas Cage shines in low-budget drama Joe

Cage plays an ex-con in David Gordon Green's independent drama, which has been adapted from a novel by Larry Brown
How to make your own gourmet ice lollies, granitas, slushy cocktails and frozen yoghurt

Make your own ice lollies and frozen yoghurt

Think outside the cool box for this summer's tempting frozen treats
Ford Fiesta is UK's most popular car of all-time, with sales topping 4.1 million since 1976

Fiesta is UK's most popular car of all-time

Sales have topped 4.1 million since 1976. To celebrate this milestone, four Independent writers recall their Fiestas with pride
10 best reed diffusers

Heaven scent: 10 best reed diffusers

Keep your rooms smelling summery and fresh with one of these subtle but distinctive home fragrances that’ll last you months
Commonwealth Games 2014: Female boxers set to compete for first time

Female boxers set to compete at Commonwealth Games for first time

There’s no favourites and with no headguards anything could happen
Five things we’ve learned so far about Manchester United under Louis van Gaal

Five things we’ve learned so far about United under Van Gaal

It’s impossible to avoid the impression that the Dutch manager is playing to the gallery a little
Screwing your way to the top? Good for Lana Del Rey for helping kill that myth

Screwing your way to the top?

Good for Lana Del Rey for helping kill that myth, says Grace Dent
Will the young Britons fighting in Syria be allowed to return home and resume their lives?

Will Britons fighting in Syria be able to resume their lives?

Tony Blair's Terrorism Act 2006 has made it an offence to take part in military action abroad with a "political, ideological, religious or racial motive"
Beyoncé poses as Rosie the Riveter, the wartime poster girl who became a feminist pin-up

Beyoncé poses as Rosie the Riveter

The wartime poster girl became the ultimate American symbol of female empowerment
The quest to find the perfect pair of earphones: Are custom, 3D printed earbuds the solution?

The quest to find the perfect pair of earphones

Earphones don't fit properly, offer mediocre audio quality and can even be painful. So the quest to design the perfect pair is music to Seth Stevenson's ears
US Army's shooting star: Lt-Col Steven Cole is the man Hollywood calls when it wants to borrow a tank or check a military uniform

Meet the US Army's shooting star

Lt-Col Steven Cole is the man Hollywood calls when it wants to borrow a tank or check a military uniform