Yesterday I did a post pointing to a NYT report on a seemingly inexplicable comment by Ben Bernanke:
Mr. Bernanke was also asked why the Fed does not lower or eliminate the interest rate — already at 0.25 percent — that it pays banks for excess reserves kept at the central bank to encourage more lending.
He said that Fed officials had not ruled out that idea but that so far it appeared the benefits would be very small and that there were concerns that eliminating the interest takes away a tool used to control broader interest rates.
Bonnie sent me the actual link, and it turns out that Bernanke said nothing of the sort. But what he did say is equally mysterious. At one point (just after 40:00) he argues that cutting the IOR rate from 0.25% to zero would depress short term rates by only 8 or 9 basis points. And the implication was that this meant it would provide very little boost to spending. But let’s take that argument one step further. Suppose short-term rates did not fall at all, and T-bill yields stayed at 8 basis points. Would the stimulus be even less? If you were a banker, how would a reduction of IOR from 0.25% to zero impact your demand for excess reserves, if the closest alternative investments paid 0.08%? Wouldn’t your demand for ERs fall?
The problem with Keynesians is that they view monetary policy through the lens of short-term interest rates, whereas it is actually all about the supply and demand for the medium of account (the base.) That’s why Keynesians screwed up in late 2008, when they failed to loudly scream for easier money (when us MMs were doing so.) This is not to say that lowering the IOR would work miracles. As always it depends on how it affected the future path of policy. But if it failed, it would certainly not fail for the reason given by Bernanke.
Commenter extraordinaire Saturos sent me the following:
Bernanke says that CPI inflation has averaged 2% over the past 4 years, is that right?
Let’s assume that Saturos did not misquote Bernanke as the NYT did. (I’m way too busy to listen to the entire interview.) In that case Bernanke is wrong. His favorite consumer price inflation index is the PCE, and this link shows consumer prices rising at a 1.37% rate over the past 4 years. Oddly the Fed delivered inflation rates above 2% when unemployment was low around 2006-08, and has run sub-2% inflation rates during the recent period of very high unemployment. Of course their dual mandate calls for exactly the opposite. How can we get the Fed to end this procyclical monetary policy regime?
Off Topic, Matt Yglesias has an excellent post discussing how the current fixation on “inflation” causes nothing but confusion. Here’s an excerpt (but read the whole thing for context):
There’s tons of public confusion out there about inflation all the time, but rather than worrying about why the public is so confused about it I think we should worry first and foremost about why economists are working with such a confusing concept.
. . .
Monetary policy is about nominal problems. Bad weather is a paradigmatic real problem. “High prices” is an ordinary language word that’s ambiguous between a nominal issue and a real issue. But “inflation” is supposed to be an economist’s term of art. Yet instead of using it like a term of art—something with a precise meaning that distinguishes between real and nominal issues—it’s used as a synonym for “higher prices.”
. . .
The thing that people dislike is when nominal consumer prices rise faster than nominal incomes. It’s not difficult to understand why people dislike that, and it’s exactly the kind of thing that bad weather does cause. But if central bankers want the public to understand what they’re doing, they have to take more care in their own dialogue to distinguish between nominal issues and real scarcity.
He didn’t really explain himself in the post per se, but in ensuing comments in the discussion thread Williamson makes clear that he doesn’t buy the idea that Kocherlakota was persuaded to change his mind by evidence. Rather, he states that the only good theory he has for the flip-flop is that “ambition collides with economic science.” In general my impression is that people who run around talking a lot about “economic science” are generally engaged in an unscientific level of self-puffering and BS.
. . .
Here’s what I think about ambition. I think that if I were an ambitious monetary economist who believed in good faith that the current course being pursued by the FOMC will be ineffective in boosting employment and is likely to produce a troubling level of inflation, I’d be shouting that from the rooftops.
There’s a great blog post from M.C.K. over at Free Exchange:
The consensus was that the Federal Reserve had been suborned by nefarious elements. Instead of solely focusing on its mandate to restrain the pace of inflation, the allegedly corrupted Fed was concerning itself with trivia like ending the recession. The discussion felt a bit out of place. No matter how one evaluates the Fed’s overall performance, the inflation record since 2009 has actually been quite consistent with its stated target. If the Fed had indeed been captured by nefarious elements that had no regard for the price stability mandate, one would have expected faster inflation to have been the result, yet the pace of inflation has actually been slower since the recession began than in the years before.
Mr Warsh and Mr Poole (who was filling in for Allan Meltzer) made a sharp distinction between the “legitimate” efforts to fight the crisis and the subsequent easing actions that were, allegedly, unjustified by the economic fundamentals. According to them, the interventions of 2007-2009 were required to ensure that “the markets could clear”, as Mr Warsh put it, while the second round of easing was done to satisfy “political masters” by monetising the debt. In fact, Mr Warsh said that the Fed was being actively unhelpful by “crowding in” Congress’s supposedly poor policy choices. He reckoned the Fed would have had more room for maneouvre if the legislature had made a good faith effort to reform entitlements and close the budget deficit. Mr Warsh seems to prefer the approach taken by the European Central Bank (ECB), in which the unelected and unaccountable monetary authority more or less dictates to democratic governments. Supposedly, these conditions are required to prevent “moral hazard”. Yet Mr Warsh had no trouble when the Fed was providing unlimited liquidity to troubled financial firms at concessional rates in exchange for dubious collateral during the teeth of the crisis.
A cynic would say that the difference is that in 2008 the crisis threatened the wellbeing of big bankers, whereas the current crisis is unemployment. I actually think these inflation hawks are well meaning, just too focused on fighting the last war (from the 1970s.)
And finally, Mark Thoma has an excellent post on wage rigidity:
It is not surprising at all that wage movements would be uninformative about labor market conditions when wages adjust sluggishly to economic conditions, but the prevalence of claims about the condition of the labor market based upon measures of compensation is a signal that people have missed this point. There can be both considerable slack in the economy (so let’s do something about it), and relatively stable wages.