WASHINGTON — As the Great Recession inflicted worsening damage on the U.S. economy, the Federal Reserve struggled during 2009 to determine the best corrective steps to pursue.
Transcripts of their meetings released Wednesday showed that the Fed’s policymakers feared the precedents being set by providing billions of dollars of government aid to the nation’s largest banks. They also debated ways to provide support to an economy that was losing hundreds of thousands of jobs a month.
Janet Yellen, at the time head of the Federal Reserve Bank of San Francisco and now the Fed chair, was particularly spot-on in her predictions. Yellen envisioned an especially weak recovery and insisted that the world’s biggest economy needed significant help.
During an emergency call on the morning of Jan. 16, 2009, after the government had announced a $20 billion bailout for Bank of America, Chairman Ben Bernanke declared that he was unwilling to allow “the failure of a firm the size of Bank of America.”
The call underscored the chaos facing the Fed and other government agencies as they confronted a financial crisis that had ignited in September with the takeover of mortgage giants Fannie Mae and Freddie Mac and the collapse of Lehman Brothers in the largest bankruptcy in U.S. history. The Bush administration scrambled to assemble a $700 billion bailout fund that Congress approved to try to stabilize the financial system.
Bernanke apologized to the group for not informing them about the details of the Bank of America rescue before it was publicly announced. He said officials had moved up the announcement at the request of the bank, which was worried about deteriorating market conditions.
The country’s economic downturn was hitting with destructive force in early 2009. The economy contracted sharply, with job losses averaging 774,000 in the first three months of the year and stock prices plunging.
Faced with the turmoil in financial markets and rapidly rising unemployment, Fed policymakers at their March 17-18 meeting decided to expand by $1.2 trillion a bond purchase program it had begun in November. The goal of the unprecedented effort was to push long-term interest rates lower to boost the economy at a time when the Fed’s main policy lever, short-term interest rates, had already been cut as low as they could go near zero.
Over the next five years, the Fed’s purchases of Treasury and mortgage bonds would expand its balance sheet to $4.5 trillion, a nearly five-fold increase from where the balance sheet had stood before the financial crisis hit in the fall of 2008. The Fed did not end the bond purchases until last October.
At the March 2009 meeting, the transcripts showed policymakers were worried that the bond buying program would not be big or bold enough to restore confidence.
“The only thing worse than buying Treasurys is to buy them in such a tepid way that we don’t have any effect,” said Fed Governor Kevin Warsh. “I think if we’re in, we’re in. We’re crossing the Rubicon.”
By the April 28-29 meeting, the transcripts show Fed officials took note of signs that the economy had stabilized somewhat.
“There have been some initial signs that the recession may be approaching a trough,” said Eric Rosengren, president of the Fed’s Boston regional bank.
Yellen called it a “welcome relief” that the economic figures since the previous meeting weren’t uniformly disappointing. But she cautioned against overreacting to the slightly better news, particularly since figures on the job market were “appalling.”
“I am particularly concerned that another shoe may drop,” she said. “Confidence in global financial markets is extremely fragile, and more bad news could trigger another panic and run on the financial system.”
Given the struggles the global economy has faced in the years since the recession, Yellen’s comments proved particularly prescient.
“Unfortunately, the road ahead is littered with headlines of defaults, bankruptcies and rising unemployment,” she said.
Not all the Fed officials were as successful in forecasting the future. Then-Philadelphia Fed President Charles Plosser expressed concerns at the April meeting about rising inflation and pressed the central bank to begin raising rates by late 2009 or early 2010.
“We cannot keep the funds rate at zero for the next three years and expect to achieve anything close to our inflation objective,” Plosser said.
As it turned out, the Fed has still not raised its short-term interest rate, and inflation has yet to become a problem. It continues to run below the Fed’s 2 percent target.
Meanwhile, Yellen’s pessimism about the economy extended into June.
“The outlook over the next several years remains disturbing… It’s a sign of how bad things really are that near euphoria broke out with the announcement of 345,000 nonfarm jobs lost in May.”
The 2007-2009 recession did end in June in the United States, although the milestone would not be officially declared until sometime later. Unemployment kept rising, hitting a high of 10 percent in October.
By the end of 2009, the transcripts showed that Fed officials saw signs that the economy was on the mend. Employers cut only 11,000 jobs in November, compared to a loss of 111,000 jobs in October. The Fed’s staff economists were projecting that employers would be adding more than 200,000 jobs per month by the middle of 2010, well above the actual monthly average of 88,833 that year.
However, Yellen told the group at the December meeting that she remained worried.
“My contacts are more likely to be considering continued layoffs rather than any substantial hiring,” she said. “Indeed, one of them said, ‘It’s become fashionable not to be hiring.’ “