The Fed's faulty assumptions
Throughout most of the post-crisis period, the US Federal Reserve argued that the United States' weak economic growth, productivity and capital spending were caused mainly by insufficient aggregate demand. In response, the Fed implemented aggressive monetary accommodation to stimulate spending—and, for a while, it succeeded. However, GDP growth soon decelerated and business investment stayed subdued, which indicated that the economic theory the Fed relied upon had proved to be faulty.
Consequently, several Fed officials in 2016 wrote extensively about how structural changes in the US economy had been interacting with ultra-low interest rates and tougher regulations on banks to make interest rate targeting difficult, reduce the target level of policy rates and restrain real economic growth. Among their key findings:
The modern industrial revolution
The Fed's policies and unforeseen structural changes have not been the only factors causing sluggish US economic growth. Growing populist movements are set to at least partially shape a new wave of fiscal intervention into economies—and monetary policy must account for these new influences in the years ahead. These movements reflect a combination of globalization, technological changes, political stalemates and geopolitical crises that have resulted in lower inflation-adjusted incomes and widening of income and wealth disparities.
Moreover, the inexorable development, marketing and implementation of a range of new technologies have already reshaped how businesses are organized—and arguably altered every aspect of economic activity. This chain reaction of technological progression will continue to generate enormous upheaval and opportunity. Not only have modern technologies become disruptive, but they have reduced the need for material inputs, enabled production at a zero marginal cost, made the entirety of human knowledge accessible via the cloud, and made knowledge available to anyone in the world at virtually no cost. These are new technologies that now "crowd-in" knowledge and understanding instead of crowding it out.
Clearly, the pace of adoption of new technologies has never before been so pervasive and rapid. As a result, all households, businesses and governments must adapt to and change with this new, modern industrial revolution or else risk their economic and financial well-being, now and in the future. This has significant implications for the Fed and other central banks: Failing to master the implications of this industrial revolution will not only cause them to miss their policy targets, but push them toward setting the wrong targets.