Beckworth and Hendrickson on NGDP targeting vs. the Taylor Rule

David Beckworth and Josh Hendrickson have a new working paper at Mercatus.  Here is the abstract:

Some economists advocate nominal GDP targeting as an alternative to the Taylor rule. These arguments are largely based on the idea that nominal GDP targeting would require less knowledge on the part of policymakers than a traditional Taylor rule. In particular, a nominal GDP targeting rule would not require real-time knowledge of the output gap. We examine the importance of this claim by amending a standard New Keynesian model to assume that the central bank has imperfect information about the output gap and therefore must forecast the output gap based on previous information. Forecast errors by the central bank can then potentially induce unanticipated changes in the short-term nominal interest rate, distinct from a standard monetary policy shock. We show that forecast errors of the output gap by the Federal Reserve can account for up to 13 percent of the fluctuations in the output gap. In addition, our simulations imply that a nominal GDP targeting rule would produce lower volatility in both inflation and the output gap in comparison with the Taylor rule under imperfect information.

It seems to me that this argument is becoming increasingly persuasive over time.  Both the natural rate of interest and the output gap are increasingly difficult to estimate, as both the natural rate of interest and the trend rate of growth seem to be becoming increasingly unstable.

Speaking of David Beckworth, I’ve enjoyed listening to his podcasts of people in monetary economics/finance.  The latest with Narayana Kocherlakota is particularly interesting, as it gives listeners a perspective on what things seem like for someone on the inside of the Fed.  (He recently retired as the Minneapolis Fed President.)



12 Responses to “Beckworth and Hendrickson on NGDP targeting vs. the Taylor Rule”

  1. Gravatar of Ray Lopez Ray Lopez
    26. October 2016 at 14:26

    Yes, but what does Athanasios Orphanides say about NGDPLT? Wikipedia: “Athanasios Orphanides (2003) claims that the Taylor rule can misguide policy makers since they face real-time data. He shows that the Taylor rule matches the US funds rate less perfectly when accounting for these informational limitations and that an activist policy following the Taylor rule would have resulted in an inferior macroeconomic performance during the Great Inflation of the seventies.”

  2. Gravatar of Garrett M Garrett M
    26. October 2016 at 14:35

    Passive investing is becoming increasingly popular and the share of assets managed against indices is growing at an accelerating rate. I wonder if comparing NGDPLT with managing against an index could go a ways to growing support for it. Call it “passively managing the economy.”

  3. Gravatar of ssumner ssumner
    26. October 2016 at 18:41

    Garrett, That’s an excellent analogy. I might use that.

  4. Gravatar of Scott Freelander Scott Freelander
    26. October 2016 at 21:58


    I can’t help but think that an organization the size of the Fed, which employs a rather large percentage of US monetary experts in some fashion, will not be content to passively manage monetary policy, despite obvious virtues of doing so. It would seem that there would be possibly various sizable organizational incentives against such an approach.

    For one thing, it would be harder to justify sponsoring so much monetary policy research, and many want to keep their paychecks. For another, the Fed de facto tends to attract economists who favor more discretion, since that has been the nature of its policy for decades. Third, the Fed, like many institutions, is loathe to take such a hard policy turn, which would mean admitting to significant and very costly mistakes in the recent past. Then, there are political concerns, and too many at the Fed who are too timid about inflation.

    My mind increasingly focuses, for what it’s worth, on moving monetary policy management to the Treasury Department, and largely deregulating the banks, and mostly abolishing the Fed as it’s known.

    It seems appealing to move monetary policy to the Treasury, because the Treasury would obviously have political incentives try to maximize economic growth. Of course, there would sometimes be incentives for temporary juicing of the economy to help win the next election, but that already occurred under Nixon with a supposedly independent Fed.

    How about separating monetary policy from bank regulation and lender of last resort functions entirely, with massive deregulation of the banking sector, including abolishing the FDIC, Comptroller of the Currency, and current Fed oversight functions? Perhaps a much simpler lender of last resort system can be established that would only address liquidity concerns for solvent banks. Insolvent banks would be allowed to fail, always. I wonder though whether the government even needs to provide lender of last resort functions if monetary policy is handled competently.

  5. Gravatar of Scott Freelander Scott Freelander
    26. October 2016 at 22:02

    Of course, the changes I mention above would make for an even deeper disaster if Americans ever elected a Chavismo-type President, so it is not without risk.

  6. Gravatar of Ray Lopez Ray Lopez
    27. October 2016 at 04:59

    @Scott Freelander – you worry too much. The Fed follows the market, doesn’t lead it, and in the few times it does with policy shocks does not have much of a real variable impact (3.2% to 13.2%, Bernanke FAVAR paper). In fact, the supposedly ‘pro-cyclical’ “real bills doctrine” of the 19th century US banks is not a bad strategy for the Fed. When Fed customer banks want money, and have decent paper to back it up (‘decent’ is subjective of course), just give them money. If there’s any stickiness in prices it does the economy no good to play around with the money supply. Give them what they demand, good and hard (and with hard money would be best IMO).

  7. Gravatar of ssumner ssumner
    27. October 2016 at 05:21

    Scott, You said:

    “It seems appealing to move monetary policy to the Treasury, because the Treasury would obviously have political incentives try to maximize economic growth.”

    That’s exactly what I’m afraid of. I want a central bank that aims at stability, not “growth”.

  8. Gravatar of marcus nunes marcus nunes
    27. October 2016 at 09:15

    In the TR, you need to look for Wally when there are many clones. Hard.

  9. Gravatar of TravisV TravisV
    27. October 2016 at 11:55

    Prof. Sumner,

    Do the graphs below indicate a lower and lower probability of a future recession?

  10. Gravatar of B Cole B Cole
    27. October 2016 at 15:34

    Scott Sumner:That’s exactly what I’m afraid of. I want a central bank that aims at stability, not “growth”.

    Stability? Egads.

    I would prefer robust growth and some instability,to 0% growth and 0% inflation, which would be very stable.

    The major central banks are far too timid, and there is cackling crowd of doomsters preaching about financial instabilty, usually of the impending but unforeseeable variety.

    Can we shoot for some fat city years before the sermons on stability?

  11. Gravatar of Jose Romeu Robazzi Jose Romeu Robazzi
    28. October 2016 at 03:38

    On the analogy of investing and monetary policy management, I would suggest that the term “passive management” is a bit of a misnomer.

    In finance people tend to underappreciate “passive investing” (in indexes of all sorts), as opposed to “active investing”, as a discretionary decision by fund managers.

    But there is an alternative, investing through rules and algorithms, which effectively is active management, it is just not discretionary.

    I believe NDGDPLT falls into the “active through rules” category. Active monetary policy based on rules. I hope this views helps …

  12. Gravatar of ssumner ssumner
    28. October 2016 at 09:47

    Thanks Marcus, I find that Curdia study to be particularly interesting.

    Thanks Travis, I’m not sure, but I plan to do a post at Econlog today, using the Michigan survey.

    Ben, You said:

    “Can we shoot for some fat city years before the sermons on stability?”


Leave a Reply