One of the frustrations of promoting new ideas is being forced to shoot down the same “zombie” objections over and over again. In a recent post, Noah Smith seems to have misunderstood the nature of NGDP futures targeting. (Actually not in the post, but in this comment.) He implied it was subject to “Goodhart’s Law” because the relationship between NGDP futures prices and future expected NGDP would break down after the Fed started targeting NGDP futures prices. He compared it to bitcoin.
One obvious problem with applying Goodhart’s Law is that there is currently no NGDP futures market, and hence no relationship to break down. But the bigger problem is that he is attacking a proposal that is not being made. He implies that the Fed would look at NGDP futures prices, and adjust policy as needed to keep them close to the target. But that’s not what people like Bill Woolsey and I are proposing.
Imagine the FOMC increased from 12 to 13 members. Does Goodhart’s Law predict that policy would become less effective? Not that I know of. How about 14 members? What about 15? How about 100 million?
And how about compensating each FOMC voter based on the accuracy of their vote. Let policy be set at the median vote for the instrument setting. Then pay people more who were “correct” (i.e more hawkish than average when ex post NGDP ends up above target, and vice versa.) That’s the essence of NGDP futures targeting. Of course the real world system would be more complex. I have a paper coming out soon, but until then my 2006 Contributions to Macroeconomics paper will have to suffice, or this blog post.
It’s not about the FOMC looking to the market for advice, indeed the FOMC would in a sense rely solely on their own internal judgment. They wouldn’t look to any external market. The difference is that the FOMC would be completely open, anyone could vote. The FOMC would become the market. And voters would be held accountable for their mistakes. That’s what makes it so scary for policymakers. Most existing members of the FOMC would probably choose not to vote, as they’d have their own money at stake. That’s good; they’ve been consistently overestimating how fast NGDP would grow, for I don’t know how many years in a row.
We don’t want them voting.
PS. Evan Soltas had a couple good comments.
PPS. I presented this idea at the New York Fed back in the 1980s. They said something like; “Thanks, but no thanks, we know how to keep NGDP on target. We can forecast better than the markets.” How’s that arrogance working out for ya? A comment by Noah Smith suggests that people like Narayama Kocherlakota are just beginning to think about this idea. I suppose it’s better 25 years late than never, but I can’t help being disappointed that he is only in the early stages of exploring this idea. Ten to one that he doesn’t yet know the literature.