US economy: What can be done to stimulate growth?

Car stuck in a sinkhole in Detroit
Image caption Peering into the hole: The BBC asked four top economists what the Fed can actually do rescue the US economy

The US economy is slowing down and risks another recession.

With Congress determined to rein in government spending, the onus is on the US central bank, the Federal Reserve to find a way out of the quagmire.

Yet economists are divided as to whether the Fed can or should do anything.

Some call for the Fed to be much more aggressive. Others say that a slow and painful recovery is inevitable and the Fed should go easy.

Many on both sides question whether there is much the Fed can do, even if it tried.

Here, four economists suggest what options they think the Fed chairman should be mulling ahead of his Jackson Hole speech.

Robert di Clemente, Chief US economist, Citigroup

"Jackson Hole is traditionally a retreat where people are supposed to think about longer term issues.

I hope his speech will take a step back, particularly in light of recent [downward] GDP revisions.

We are in a post-bubble economy, and the typical pattern is a very long, protracted, difficult recovery, where employment does not return to its previous peak.

One of the major problems we face is lack of demand in the economy.

There has been a rise in the savings rate that has persisted since the recession.

People have very low income expectations - typically they expect incomes to stagnate.

Businesses are in reasonably good shape. They could be spending more on capital equipment and hiring, but they're concerned about the level of demand going forward.

Financial firms are eager to lend, but the problem is people are not eager to come in the door.

[Another major problem is] a big mismatch in the jobs market.

Firms say they cannot fill 40% of job openings because they cannot find people with the skills.

Meanwhile, 40% of job losses have been in three industries - housing, autos and finance - that structurally are not going to come back to where they were before.

Policies haven't been up to the task, not just because they are of limited effectiveness, but because you have to reach consensus.

If Congress were willing to tackle some of the problems of long-term fiscal policy, there would be a lot of scope for short-term stimulus. But there is a deep ideological divide.

Monetary policy at best is limited. But what it can do is provide an element of support to financial conditions.

The benefits of QE are more limited now, not only because interest rates are lower, but because monetary policy was far more effective when markets were dysfunctional [in 2008-09].

The previous QE succeeded where it was most relevant, which is by raising inflation.

But now inflation if anything is slightly above where they'd like, and that raises the hurdle [for doing more QE]."

Nariman Behravesh, Chief economist, IHS

"There is a parallel with Japan, which is that in the wake of a financial crisis the healing process takes time.

We're going through a period when growth will be extremely sluggish and choppy.

Politicians would like to compress this. But it takes three-to-five years, maybe even longer.

Another parallel is that one thing we have not done is deal with the housing market problem.

There is still a massive overhang of housing debt, which is a festering sore in the US economy.

The big difference with Japan is monetary policy.

The Bank of Japan denied and delayed [in the 1990s slump]. But the Fed has learned from Japan.

QE2 came under a lot of criticism. But it was like an insurance policy to prevent a double dip.

The same thing is going to happen this time.

What the Fed can do is lower long-term interest rates even more. It won't be a huge boost, but it will help.

The great thing about this Fed is that it is not shy of more unorthodox moves.

I think in the speech [Ben Bernanke] will leave himself tons of room for manoeuvre."

Prof David Blanchflower, Dartmouth College, New Hampshire

Mr Blanchflower is also a former member of the Bank of England's Monetary Policy Committee.

"Fiscally, the US is doing exactly the wrong thing.

The US faces a liquidity trap. [The federal government] should be doing huge fiscal stimulus to reverse that problem.

But they're not. So monetary policy is the only show in town.

How effective it is depends on how much of it you do.

People argue that QE2 didn't work. But what is the counterfactual? What would life have been like without it?

I don't think the Fed did enough and would argue to do more. What's the alternative? Do nothing?

The question is how much should they do this time? One trillion, maybe two?

It is hard to say what the right amount is, because it is untested.

The logic of what [Ben Bernanke]'s trying to do, is to raise asset prices, lower borrowing costs and depress the currency.

The pound appreciated against the dollar since the Fed's QE2, putting the UK at a competitive disadvantage.

So the Bank of England will have to respond, because now we are in a world of competitive QE."

George Magnus, Senior economic advisor to UBS Investment Bank

"There is a crisis of capitalism. We are facing fundamental contradictions.

The [1980s] supply-side reforms, aided and abetted by outsourcing and globalisation, mean we can now produce as much as we want.

But real wages have been stagnant for 20-plus years.

And now the credit spigot [tap] has been turned off. People don't want to take on more debt, and we have this demand deficiency problem.

QE3, if it looks just like QE2, won't achieve much.

It will force down long-term rates more. But I'm scratching my head thinking what could you achieve by pushing rates down another [0.4%-0.5%]?

Stoking inflation to erode the value of debt

I think there is a case for a much more radical step of targeting GDP: It's a covert way to lift inflation.

They should print as much [new money] as it takes to get growth of nominal GDP to 4%-5%.

Right now it looks like [nominal GDP] is stagnating. If it starts falling, the US could fall into a debt trap.

At the moment there is no consensus on the [Fed's policy committee] for a radical shift in policy target.

And politically there would be a big problem with Congress, where many blame [Ben Bernanke] for the problems that the US is in.

But if the US slips back into another contraction - which there is a 50:50 chance of in the next six months - then... policy can change again.

[Another option is] targeted monetary policy, to do something about mortgages.

The Fed could help debtors refinance on very favourable rates.

We have to get money into the hands of those who will do more spending."