02/28/2014 04:28 pm ET Updated Apr 30, 2014

The Limits of the Fed and the Right to a Job

Last week the Federal Reserve released transcripts from its 2008 policy meetings. Following the customary five-year lag, this release provides detailed insight into Fed officials' thinking during the financial crisis of 2008, when major financial institutions went bankrupt and had to be bailed out. Estimates put the total value of the Fed bailout at $29 trillion, with little economic growth to show for their efforts.

The transcripts reveal an unprepared, misguided Fed, which does not inspire confidence for future macroeconomic policy. Instead of relying on a handful of appointed policymakers to manage and contain economic crises, the focus of macroeconomic policy should shift to preventing crises by having the federal government guarantee jobs to all individuals.

Although the Federal Reserve has a legal mandate is to generate maximum employment, in addition to keeping inflation low, supervising banks, and overseeing the functioning of the financial system, it has failed miserably over the past 10 years. Even after pumping $3 trillion into the economy through Quantitative Easing programs, the unemployment rate is still unacceptably high. This failure is not a justification for ending the Fed, but rather one for reexamining the responsibilities and accepting the limitations of Federal Reserve policy. Since guaranteed employment would eliminate economic crises, the Fed's role could be reduced to a purely technocratic one: providing credit to create a sustainable rate of economic growth and providing research about macroeconomic conditions.

But what did the Fed do -- or did not do -- to warrant a sharp reduction of it role? Its policy-making arm, the Federal Open Market Committee (FOMC), was incompetent during the run-up to and during the current crisis. Fed Chairman Ben Bernanke denied publicly and forcefully the existence of a housing bubble, despite overwhelming evidence to the contrary. During the summer of 2008, as unemployment was rising and severe strains in the housing market and financial system were becoming blindingly apparent, Dallas Fed President Richard Fisher was primarily concerned with the threat of rising inflation -- a threat as dangerous as eating an under-cooked steak after the Titanic struck an iceberg. A few months earlier, Vice Chairman of the FOMC, and later Secretary of the Treasury, Tim Geithner said that the world economy "still is looking pretty good," despite serious problems in mortgage markets and rapidly declining home prices. Then on September 16 -- the day of the multi-billion dollar bail out of AIG and a week after the multi-billion dollar bailout of Fannie Mae and Freddie Mac -- Fed Chairman Ben Bernanke said that Fed policy "is looking actually pretty good."

Of course it is now easy to criticize policy makers for being too complacent and failing to see the collapse of the world's financial system -- hindsight is always 20/20. That, however, is not the issue. What is of concern is that for the past 35 years economic policy has abandoned its responsibility to create full employment. The group of economists that occupy dominant positions of power no longer seriously consider and fail to promote policies that will provide jobs to the unemployed.

Without full employment, wage growth stagnates and inequality increases. The economy has to rely on asset-price bubbles -- commercial real estate in the 1980s, technology stocks in the 1990s, and housing in the 2000s -- to generate economic growth. But all bubbles eventually pop, leaving a trail of unemployment, foreclosures, and bankruptcies in its wake. Those who allow bubbles to reach dangerous and systemically catastrophic proportions -- people like former Fed Chairmen Alan Greenspan and Ben Bernanke, Tim Geithner, and economists like Eugene Fama -- go on to high-paying consulting and research jobs, and win Nobel Prizes. No such rewards exist for the people who lose their job due to this incompetence.

Instead of continuing with these same policies that create inequality and instability, policy makers must shift their attention to creating programs that guarantee all workers the right to a job. Similar to how the Fed acts as the lender of last resort for the financial system, the federal government could act as an employer of last resort for the labor market. As the Fed and federal government used trillions of dollars to bailout banks that made risky, highly speculative bets that went sour, no one bailed out the workers who lost their job. It is time to end this pro-elite bias of economic policy and create a fair economy that shares its prosperity.

An employer of last resort would work like this: The federal government would provide funds to local employment centers that would create jobs that pay a living wage and that serve needs in their areas. Jobs would be created based on their social usefulness -- day care centers, education programs for low-income children, care for the elderly, improving the quality of public parks and recreation centers, and repairing dilapidated infrastructure, to name a few. Training and putting unemployed workers to work would improve productivity, boost living standards, and improve the quality of public goods.

Critics argue that such a program would be too costly and would increase the deficit. But estimates find that it would have no effect on the deficit, and would decrease it over the long run because the government would be able to reduce its expenditures on welfare programs for the unemployed, saving hundreds of billions of dollars per year, in addition to boosting tax revenue by having nearly all of the adult population gainfully employed. Guaranteed employment would also reduce social costs of unemployment that these critics ignore: alcoholism, increased mortality, divorce, substance abuse, and loss of self-worth.

Having the government serve as an employer of last resort would end the sorts of crises that have plagued the economy for the past 30 years and eliminate poverty. Providing workers with jobs would create an economically and socially productive use of their skills, boost wages, create incentives for investment, and restore the prosperity that has been siphoned off by the financial elite, only to be used for risky investments that create crises and the need for a never-ending cycle of taxpayer-funded bailouts.