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Clarida on price level targeting

David Beckworth directed me to a Richard Clarida speech from a few months back:

Five features of the new framework and September FOMC statement define how the Committee will seek to achieve its price-stability mandate over time:

1. The Committee expects to delay liftoff from the ELB until PCE (personal consumption expenditures) inflation has risen to 2 percent on an annual basis and other complementary conditions, consistent with achieving this goal on a sustained basis and to be discussed later, are met.4
2. With inflation having run persistently below 2 percent, the Committee will aim to achieve inflation moderately above 2 percent for some time in the service of having inflation average 2 percent over time and keeping longer-term inflation expectations well anchored at the 2 percent longer-run goal.5
3. The Committee expects that appropriate monetary policy will remain accommodative for some time after the conditions to commence policy normalization have been met.6
4. Policy will aim over time to return inflation to its longer-run goal, which remains 2 percent, but not below, once the conditions to commence policy normalization have been met.7
5. Inflation that averages 2 percent over time represents an ex ante aspiration of the FOMC, but not a time-inconsistent ex post commitment.8

The first point is defensible, as long as “expects” means expects, but the explanation Clarida provides later is a bit fuzzy on this point:

First element
A policy that delays liftoff from the ELB until a threshold for average inflation has been reached is one element of a TPLT strategy. In our September FOMC statement, we communicated that, along with other complementary conditions, inflation must have risen to 2 percent before we expect to lift off from the ELB. This condition refers to inflation on an annual basis. TPLT with such a one-year memory has been studied using stochastic simulations of the Fed’s FRB/US model by Bernanke, Kiley, and Roberts (2019).

Now “expects” becomes “must have risen to 2 percent before we expect to lift off”. (Note TPLT is temporary PLT, and ELB is the effective lower bound on interest rates, roughly zero.)

So why is this bad? Because I worry that people will focus on the “must”, and not the “expect”.

But haven’t I been saying that central banks need to make firm commitments about monetary policy? Yes I have, but interest rates are not monetary policy; they are a tool of monetary policy. The commitment should be to set the policy tools at whatever level is necessary in order to be expected to reach the policy goal.

After a period of disinflation, the Fed needs to commit to keeping the fed funds target below the natural rate of interest as long as necessary to assure that it expects to achieve the desired make-up inflation. But that does not necessarily mean it must keep the target rate at zero; it depends what is happening to the natural interest rate.

As a practical matter, this may not matter very much in the near term, as inflation is so well anchored that I’m not particularly concerned about an overshoot. But monetary policy should be forward looking and one can imagine scenarios where a low rate commitment becomes highly inflationary.

For instance, in 1949 and 1950 the inflation rate averaged zero. At the time, the Fed was committed to a low interest rate policy. In 1951 inflation shot up to 7.9%. Not surprisingly, in 1951 the Fed reached an agreement with the Treasury Department that ended its commitment to keeping interest rates very low.

I don’t see any 1951 scenarios on the horizon (the Korean War raised the natural interest rate in 1951), but this is why Clarida should emphasize “expects” rather than “must”. I’d prefer a commitment to set rates at a level that insures an average inflation rate of 2%, then let the markets decide what interest rate path will achieve that objective. Better yet, target market forecasts of 4% average NGDP growth.

Point 5 is a bit perplexing, but if Clarida is nodding to the Fed’s dual mandate then it’s acceptable.

For example, the Fed might want to use core inflation as an intermediate target. Because deviations between core and overall inflation are not forecastable ex ante, a policy that is expected to produce 2% core inflation, on average, will also be expected to produce 2% headline inflation, on average. And it’s OK if any core/headline deviations are not trend reverting, as the Fed’s dual mandate suggests that it should also care about unemployment. (Of course in this case they should probably just target core inflation.)

But . . . and this is very important . . . any flexibility should be symmetrical. Thus if you allow positive (and permanent) oil price shocks to permanently move the price level a bit higher, then you should allow negative (and permanent) oil price shocks to permanently move the price level a bit lower than the previous trend. Flexibility should not lead to a policy that is expected to produce above 2% headline inflation, on average.

All I’ve got left is hatred

For there is nothing good or bad, but thinking makes it so. — Epictetus

Seriously, are you telling me that within a 12-month period I must:

1. Root for Joe Biden to be elected president?

2. Root for the Lakers to win the NBA title?

Apparently so.

PS. Trade Kyrie for Russ. I want to see what OKC would have looked like if they’d stayed together.

You can’t handle the truth!!

OK, some of you can, but many of you cannot:

1. The truth that masks work has been confirmed in another major scientific mega-study:

In this narrative review, we develop an analytical framework to examine mask usage, synthesizing the relevant literature to inform multiple areas: population impact, transmission characteristics, source control, wearer protection, sociological considerations, and implementation considerations. A primary route of transmission of COVID-19 is via respiratory particles, and it is known to be transmissible from presymptomatic, paucisymptomatic, and asymptomatic individuals. Reducing disease spread requires two things: limiting contacts of infected individuals via physical distancing and other measures and reducing the transmission probability per contact. The preponderance of evidence indicates that mask wearing reduces transmissibility per contact by reducing transmission of infected respiratory particles in both laboratory and clinical contexts. Public mask wearing is most effective at reducing spread of the virus when compliance is high. Given the current shortages of medical masks, we recommend the adoption of public cloth mask wearing, as an effective form of source control, in conjunction with existing hygiene, distancing, and contact tracing strategies.

Or maybe you think doctors have been wearing masks for 100 years because they feel comfy.

2. Covid denialism: There’s a school of thought that Covid deaths are greatly exaggerated. These claims are false, as we have lots of other data from various sources that back up the Covid fatality figures. Proponents of this fallacy suffer from innumeracy.

3. Stop the steal: Those who deny Biden’s win also suffer from innumeracy. A close look at county-by-county results shows that there was no widespread voter fraud, as Biden won because he did unusually well in lots of Republican controlled, well-educated suburban countries, not because he did unusually well in heavily black and Hispanic areas.

4. Climate denialism: It perfectly OK to question the policy preferences of environmentalists, but the truth of global warming is pretty firmly established by data from a wide range of sources.

5. Inflation truthers: No, true inflation is not running at 8%. If that were so then Trump would have presided over one of the worst depressions in world history, even before Covid hit in 2020. Wage growth is only around 3%/year. Does anyone think 2017-19 were years of catastrophic depression in the US? More innumeracy.

6. China denialists: While you can certainly question the exact figures, it’s not true that the Chinese government lies when they claim rapid economic growth over 40 years, as we have data from lots of non-Chinese sources that confirm this fact. If Western companies that do business with China lied about their (soaring) sales in China, then their executives could go to prison for accounting fraud. Why would they take that risk? I’ve been to China 8 times since 1994—the incredible growth is obvious to anyone with two eyes. Similarly, there is no evidence that China failed to control Covid after early missteps.

Why are so many people unable to handle the truth? The common theme here is that people believe what they want to believe. I have no problem with people being delusional, what I object to is their insistence that others share their delusions, as a way of showing “loyalty to the cause”.

Thus Trump doesn’t just insist that the election was stolen. He insists others knowingly and falsely claim that the election was stolen. Unless you are willing to lie for Trump, you are not sufficiently loyal.

Thus commenters don’t just insist that China is lying about rapid economic growth and Covid success, they insist that I share in their lies. If I fail to share their wild conspiracy theories, it shows that I am insufficiently loyal to the anti-communist cause. “He said something good about China, he must be a secret CCP supporter!”

In fact, there is no one in the blogosphere who is more anti-communist than I am. But my anti-communism comes from a mix of realism, pragmatism and utilitarianism. I understand that China’s rapid economic growth came from moving away from central control and toward the increased use of private markets. I don’t feel a need to signal loyalty to any particular tribe of anti-communist fanatics—I have confidence in my own reasons for being an anti-communist.

HT: Razib Khan

PS. You probably notice that the list of deluded denialists on top is dominated by those on the right. Of course the left is not entirely free of these sorts of delusions. Some progressives deny that building more houses will increase housing affordability. Some environmentalists deny that nuclear power plants (and yes even Chernobyl) are good for the environment. Some progressive education advocates deny that charter schools have improved education. Some left-wingers deny that gender and racial differences in earnings almost entirely reflect productivity differences, not discrimination. Some progressives deny that BLM riots help to elective conservative politicians. In any tribe, there will always be some people who deny truths that they find unpalatable.

PPS. Every day brings more evidence that America is a banana republic. This isn’t the country I grew up in (although there are some parallels with polarization and violence in the Jim Crow southern states):

How about a non-binding secret ballot, after the official vote?

The youth are our future

At least that’s what GOP congresswoman Mary Miller says:

“Hitler was right on one thing, that whoever has the youth has the future. Our children are being propagandized,” Miller said.

I’d use the phrase “influences the youth”, not “has”. Anyone who has had children knows that grownups never “have the youth”.

But Miller is certainly 100% right that “Our children are being propagandized”.

(BTW, Imagine being educated in such a way that Hitler was the only philosopher you could think of when looking for a “the youth are our future” type quote.)

Speaking of our youth, younger members of the GOP death cult seem to have adopted Trump nihilism:

Rep. Markwayne Mullin (R-Okla.) was captured on video refusing to wear a mask when offered one as lawmakers sheltered in a crowded conference room during the dramatic Wednesday attack on the U.S. Capitol by supporters of President Donald Trump.

In the video released by Punchbowl News, Mullin is seen standing, maskless, with newly elected Rep. Marjorie Taylor Greene (R-Ga.), a follower of the conspiracy theory QAnon who was condemned by House leadership for racist remarks during her campaign, also unmasked. Rep. Lisa Blunt Rochester (D-Del.), masked herself, offers the two surgical masks. . . .

Rep. Bonnie Watson Coleman (D-N.J.) announced Monday that, “Following the events of Wednesday, including sheltering with several colleagues who refused to wear masks, I decided to take a Covid test. I have tested positive.” It’s not clear whether Watson Coleman sheltered in the same location as Mullin.

Rep. Pramila Jayapal (D-Wash.) announced early Tuesday that she, too, had tested positive.

“I just received a positive COVID-19 test result after being locked down in a secured room at the Capitol where several Republicans not only cruelly refused to wear a mask but recklessly mocked colleagues and staff who offered them one,” Jayapal said in a statement.

Representative Coleman is a 75-year old cancer surviror.

And people ask me why I’m not a Republican.

PS. Tyler Cowen discusses the question of whether Twitter should have banned Trump. FWIW, here are my views:

1. I think they had the right to do so, and I oppose government regulation of Twitter.

2. I think it was unwise to do so, although it may be in their financial interest to do so (mostly because it would boost employee morale.) Overall, however, I think it’s better that Twitter also presents the President’s views, no matter how reprehensible. He does represent nearly 40% of the US public. Let’s debate Trumpism right out in the open.

3. More broadly, woke “cancel culture” has played a significant part in the rise of Trumpism. And last Wednesday will make the left even more self-righteous. Leftists might be surprised to learn how often conservatives cite cancel culture as a factor pushing them to the right. Thus Twitter is actually strengthening the right by this decision.

4. Although Twitter’s decision has nothing to do with the 1st Amendment per se, among average people it increases the perception that those in positions of responsibility are supposed to ban hate speech. Over time, that view will bleed over into cases that threaten the 1st Amendment. I predict that we will eventually end up losing the right to engage in “hate speech”, something that has already happened in Europe.

Of course losing the legal right to engage in hate speech is no great loss, but losing the right to engage in “hate speech” is a very great loss. I hope I’m wrong, but I suspect that the 1st Amendment will be rendered meaningless within a few decades. Freedom of speech will only apply to government approved speech.

Robert Hetzel on the Fed’s new policy

Bob Hetzel has a new Mercatus paper that discusses the Fed’s new “flexible average inflation targeting” policy regime. He worries they may eventually overshoot to excessively high inflation. I’m less worried (medium term), but agree with his conclusion:

The newly announced strategy commits the FOMC to expansionary monetary policy to lower the unemployment rate to its lowest sustainable level as indicated by a persistence of inflation above the long-run 2 percent target. The announced strategy, however, leaves vague how the FOMC will then return inflation to the 2 percent target. One possible way to ensure the long-run discipline required to maintain price stability would be to accompany the policy with a long-run path for the price level.

I see level targeting as a way of permanently ending the longstanding and counterproductive debate between hawks and doves.

On another topic, David Beckworth has a new podcast where he interviews me on what I call the “Princeton School” of macroeconomics, by which I mean the work done by Krugman, Bernanke, Woodford, Eggertsson and Svensson back in the late 1990s and early 2000s. I see Krugman’s 1998 paper as perhaps the most important macro paper of the past 40 years, providing the best framework for understanding 21st century monetary policy. I plan to write a paper on this topic, and as usual I’ll have a slightly unconventional take on the subject.

PS. I also have a new piece in The Hill, which criticizes our response to Covid-19.