TJP

The Federal Reserve (Fed) believes that lower interest rates influence planned investment. The influence of lower interest rates on planned investment is only realized when businesses perceive viable demand for their products. Thus, there must be strong aggregate demand in the goods market from consumers for lower interest rates to influence investment.

Monetarists, such as Milton Friedman, however, dismissed interest rates as a policy instrument. He claimed that it was not feasible for the monetary authority to use interest rate as a target or as an effective instrument. In recent years, however, the Fed used interest as a policy variable in their inflation targeting scheme.

As we've seem, the inflation targeting scheme led to a worldwide economic bust. And, current Fed lower interest rate has not influenced private planned investment spending.

The key variable for stimulating the economy is consumption. However, consumers suffered significant income loss during the Fed induced recession. And, unlike bankers, the Fed and the Treasury did not compensate consumers for their losses. In fact, according to the narrative by pundits, politicians and even the Fed, consumers' and bankers behaviors caused the recession.

Although that narrative is not entirely correct, it remains ingrained in the post recession culture. This narrative, however, is insidious and counterproductive; since the economy cannot expand in the absence of borrowers and lenders (borrowing/lending). And, all lending involve default risk.

When borrowing is constrained due to tepid lenders' behaviors, an economic stagnation occurs. Unfortunately, many unaware of how the economy functions continue to argue for less borrowing and more savings. They do not realize that borrowing expands the money supply and that a monetary economy enhances the production process.

They do not realize that changes in the level of output, employment, or even inflation are contingent of the effective management (expansion) of monetary aggregates. The availability of money is a necessary requirement to execute spending decisions, as well as financing home and manufacturing facilities.

Therefore, when the Fed constrains the money supply, it reduces the nation's capacity to expand gross domestic product, which is the income of the nation. The Fed constrained the growth of the money supply, M1, from 2003 to the last quarter of 2008.

How do we get out of this economic slum? The Obama administration in coordination with the Fed should facilitate homeowners refinancing, even those currently upside-down.

Refinancing will restructure consumers debt and increase personal disposable income. The increase in personal disposable income would increase aggregate demand and increase investor confidence.

Investor confidence and low interest rate would influence planned investment, which would further increase aggregate demand.

Once consumption and investment are increasing, tax revenues would also increase, and government spending could be reduced. Moreover, the monetary authority could establish a full employment monetary growth strategy.

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