Matt Yglesias on monetary policy

Matt Yglesias has a very good piece on monetary policy.  It is primarily addressed to progressives, but everyone should read it.  Here are just a few excerpts of a much longer article:

Clearly, the Fed bears enormous responsibility for the health of the economy. But the way the current system works, the Fed’s members are hardly ever held accountable when the Fed fails to live up to that responsibility. The current Great Recession is, like all passing economic disasters, a major failure of macroeconomic stabilization. On the one hand, in its role as bank regulator, the Fed clearly failed to prevent widespread misbehavior. On the other hand, as a monetary policymaker, the Fed let inflation expectations fall well below customary levels even as output and employment were plummeting. Yet so far the key monetary policy-makers have been reappointed, and discussion of the issue has been dominated by cranks warning of nonexistent inflation and pushing for antiquated ideas like a gold standard. And the Fed did, in fact, engage in a flurry of unfamiliar activity to support the economy. So at the very time the collapse in output suggested the need for even more unorthodox monetary expansion, the aggressive expansion itself invited criticism that too much money was being created or that the Fed was simply continuing an unduly cozy relationship with the banking sector.

Much of the blame lies with the Fed’s current statutory mandate. Simply put, it is maddeningly vague. The interpretation of both “maximum employment” and “stable prices,” as well as the correct balance between the two, is up for grabs. Some FOMC members (or some members of Congress) may decide that 2 percent inflation is too high and the concept of “stable prices” should be re-interpreted to mean something closer to 1 percent or 0 percent inflation. Alternatively, many or most FOMC members may believe that the kind of more drastic QE measures that would be necessary to boost growth and inflation to target levels would be too politically damaging to undertake. Most plausible of all is that we’re currently experiencing some combination of the two. Some members probably regard sky-high unemployment as a price worth paying for the goal of a reduced rate of inflation, while others would prefer to do more but worry about the politics. The result is to leave the FOMC semi-paralyzed and unable to offer a fully coherent account of its own conduct. A candid description of internal disagreements and the resulting policy compromise would ameliorate the communication problem, but at the cost of undermining the aura of unanimity that the Fed relies upon to preserve its credibility and independence.

Nobody can say the FOMC is doing a bad job because nobody can say definitely what its job is. Not only the committee itself, but each individual member thereof, is free to define the FOMC’s mission freelance. Policy-making is essentially an accountability-free zone.

But while FOMC members are overempowered to set their own goals, they’re underempowered to push back against outside critics who don’t like the smell of certain unorthodox measures or who simply have partisan political motivations. Without an unambiguous mandate to follow, critics and interested parties can easily politicize unfamiliar moves.

Conversely, failing to define a clear mission for the Fed is a convenient way for Congress to duck responsibility for economic decisions. A clearer mandate for the Fed would make it easier for Congress to hold the central bank accountable for poor performance, but it would also force politicians to focus more clearly on who is responsible for what. Past economic calamities have, appropriately, prompted rethinking of monetary policy””the key lever for providing macroeconomic stability. Amidst the Great Depression, FDR’s Administration took the dollar off the gold standard, creating, in effect, an enormous expansion in the money supply and setting the stage for recovery. And after the tremendous inflation of the 1970s, the Fed was refocused on fighting price increases and was distanced from the president’s short-term political interests. The economic calamity of our generation ought to provoke a similar rethinking””one aimed at empowering the central bank to respond forcefully to a big crash while also demanding that it deliver results. There’s no reason we should listen to the cranks, but we should at least hear them and recognize that they’re gaining credibility for the very good reason that the powers that be have failed and nobody else is talking.

One step in this direction would be to start taking Federal Reserve governance more seriously. Currently the chairman of the system tends to be a quasi-celebrity post, but the other members of the Board of Governors languish in obscurity. It’s like forgetting that the associate justices of the Supreme Court have important jobs. Even worse, the regional bank presidents are, in part, selected by private banks in a way that wreaks havoc on any notion that policy should be accountable to the public interest.

.  .  .

In our stovepiped movement, nobody is watching the basics of economic stability. This is a major lacuna in the progressive institution-building of the past ten years. Unless people are so naive as to think we’re currently living through the last major recession in world history, it’s a gap that needs to be filled. Putting a non-conservative in the Fed chairman’s seat would be a nice start. And more programmatic emphasis is needed in our think tanks and journals to bridge the gap between academic research on monetary policy and the political world. The institution that failed us so badly in the current crisis is bound to fail again, and it’s crucially important that next time, there’s someone out there ready to talk about it other than Ron Paul.


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33 Responses to “Matt Yglesias on monetary policy”

  1. Gravatar of Bob Murphy Bob Murphy
    20. March 2011 at 06:25

    Yet so far the key monetary policy-makers have been reappointed, and discussion of the issue has been dominated by cranks warning of nonexistent inflation and pushing for antiquated ideas like a gold standard.

    Used to be that people who said the path to prosperity consisted of printing up more green pieces of paper were the cranks. How things have changed.

  2. Gravatar of marcus nunes marcus nunes
    20. March 2011 at 06:35

    That´s the beauty of NGDP level targeting. You know when you should “print more” and conversely “print less” green pieces of paper.

  3. Gravatar of Full Employment Hawk Full Employment Hawk
    20. March 2011 at 07:24

    “Even worse, the regional bank presidents are, in part, selected by private banks in a way that wreaks havoc on any notion that policy should be accountable to the public interest.”

    RIGHT ON! But not strong enough. The “in part” is 2/3. Six out of the nine members of the boards of directors of the individual banks, which choose the individual bank presidents are elected by the member banks.

    An independent central bank is only compatible with a representative democracy if the people making the decisions are chosen by and ultimately responsible to the elected representatives of the people.

  4. Gravatar of Full Employment Hawk Full Employment Hawk
    20. March 2011 at 07:29

    “How things have changed.” For the better.

    This reflects an understanding that WHEN AN ECONOMY IS DEPRESSED, expansionary monetary policy is the key to prosperity. Insisting on “sound money” under such conditions makes one a monetary crank.

  5. Gravatar of Daniel I. Harris Daniel I. Harris
    20. March 2011 at 07:31

    Hey, I’ve never commented before, but I felt I should because I love your blog.

    I’ve been reading it for a while now, and you are always insightful, even-handed, and persuasive. I often don’t agree with you (I’m crazy queer vegan hippie left-wing (yes, I am actually all those things)), but that does not detract from the utmost respect I have for you.

    Thank you for challenging me and helping me grow as a person.

  6. Gravatar of Scott Sumner Scott Sumner
    20. March 2011 at 08:40

    Bob, It still is the sign of a crank. But it’s ok to argue that printing money can keep the economy close to its potential output.

    Marcus, I agree.

    Full employment hawk, I agree.

    Daniel, Well I’m certainly crazy, so we have that in common. Seriously I greatly appreciate your support. Those comments are very gratifying.

  7. Gravatar of W. Peden W. Peden
    20. March 2011 at 09:16

    Bob Murphy,

    Both are cranks. The respectable position is that the supply of money should be matched to the demand for money, just like anything else. Crank positions in monetary policy are the product of the tendency to forget about supply & demand where money is concerned and to rave about rubbish like “intrinsic value” and “animal spirits”.

  8. Gravatar of Richard Allan Richard Allan
    20. March 2011 at 11:13

    W Peden, any Austrian who used the term “intrinsic value” would be crucified.

  9. Gravatar of Mark A. Sadowski Mark A. Sadowski
    20. March 2011 at 11:47

    Matt’s article opens with this:

    “Bored by the proceedings at the Republican National Convention in St. Paul one day in 2008, I decided to try to gather some color down the road in Minneapolis, where Ron Paul and fellow dissident conservatives and libertarians were holding a counter-convention at the Target Center. At one point a speaker thundered that Barack Obama and John McCain “both have a lot to learn about Austrian business-cycle theory.” The crowd went delirious with cheers, and soon chants of “end the Fed” echoed throughout the arena.

    It was funny at the time. A bunch of cranks talking about their crank monetary theories and espousing a crank prescription.

    Today, Paul is the chairman of the House Subcommittee on Monetary Policy.”

    That was the extent to which he mentions Austrian economics. Yet this aroused a hornet’s nest of outraged Austrians (of the vulgar kind) in the comment section, which is worth reading as much as the article (and is even more amusing).

  10. Gravatar of W. Peden W. Peden
    20. March 2011 at 11:56

    Richard Allen,

    “Investors seek the intrinsic value of gold to protect themselves from inflation.” – Ron Paul.

    I suppose we could say that Ron Paul isn’t an Austrian, though. However-

    http://www.youtube.com/watch?v=-gn55fTRXZw

    59:36 for the start and 1:00:55 for the attribution of “value” to silver. If Ron Paul isn’t an Austrian, they we can at least suppose that the folks at the Von Mises Institute are at least Austrian-lite and I didn’t see any crucifixion here, though Selgin was admirably quick in rejecting this fallacy.

    But let’s be serious: Ron Paul is an Austrian crank and my points was about cranks. Not all Austrians are cranks, by any means.

    I agree that Austrian economists of note (and the great Austrians of history like Hayek, Von Mises and Menger) reject the nonsense of the intrinsic value of gold. But these aren’t cranks. Ron Paul, perhaps we can agree, is an Austrian crank.

    That said, modern Austrians don’t hold a candle to Von Mises et al in terms of subjectivism. For instance, to quote Murphy-

    “The consumer’s good is always the 1st order, regardless of how far back we push the analysis, even if we go back to axes carved by prehistoric men.”

    If we apply Von Mises’s Regression Theorem to money, we can realise that it has value based on its expected future use, just like anything else. It is receptive to being understood in terms of supply and demand: too much supply relative to demand means a rise in NGDP above a stable level, too little supply relative to demand means a drop in NGDP above a stable level.

    On such an analysis, the function of issuers of money is simple: to adjust supply in response to demand (or velocity, if you like). In this respect, money is no different from furniture.

  11. Gravatar of Philo Philo
    20. March 2011 at 12:37

    Iglesias fails to identify, in his own mind, the Fed’s basic mechanism for controlling the economy: whether it is *manipulating the quantity of money* or *manipulating short-term interest rates*. He first says it’s the former: “[The Fed’s] [p]urchasing bonds puts more money into the economy, creating conditions of ‘easy money’, and is known as ‘easing’. Selling bonds makes money ‘tight’ by pulling it out of the economic system.” But then he says that the Fed mostly operates merely by *announcing its intention* to buy or sell bonds, whereupon private participants in the market, believing that the Fed will carry out these announced intentions, drive bond prices up or down, as the case may be; the Fed doesn’t actually have to buy or sell the bonds. This assumes that the Fed’s job is not to control the quantity of money but to *control (short-term) interest rates*: for an announcement from the Fed, while it may *affect rates*, does nothing to *alter the quantity of money*.

  12. Gravatar of Benjamin Cole Benjamin Cole
    20. March 2011 at 13:39

    Talk about a clash in goals.

    Transparent government is almost always good. Democracy is almost always good.

    Then why do I get the shivers at the idea of Ron Paul setting monetary policy, backed by the Glenn Beck crowd?

    There is such an anti-government (yet oddly militaristic) strain on the American right today I fear putting a sensible monetary policy into their hands (just as I fear putting sensible crime/punishment into the hands of lefties).

    I have talked to people who fervently believe any inflation is theft. Almost any economics forum brings forth people braying about the sacred rights of bondholders. The fact that bondholders, like equity or property holders, took a risk when they invested is heresy.

    Maybe the current Fed set-up is not so bad. After all, we don’t have Congressional oversight on the Supreme Court–even less than the Fed. The Supremes are appointed for life, whereas the Fed Chair is up every four years, and the vice-chair, through Presidential appointment, approved by Senate.

    Thomas Jefferson rather snobbily talked about the need for a “cooling saucer” in national debate, that suacer being the Senate (Jefferson was plenty hot when it came to quadroon slave girls).

    Maybe we need the “cooling saucer” of the current Fed set-up.

  13. Gravatar of Morgan Warstler Morgan Warstler
    20. March 2011 at 13:50

    The dangerous thing here is of course, is that the progressive left will find out right quick how little they truly are if they cast their eyes on the Fed.

    For the Fed:

    Bankers > Republicans Interests > Democrat Interests

    Large funds have faith in America precisely because this is so damn obvious.

    Things can never get too out of hand, as long as the Fed is there to ruin leftists aspirations. That, and that, alone is the underlying assumption about America’s strength going forward.

    THOSE WITH MONEY TO LOAN do not look at American tax policy since 1980 and think we have been doing it wrong.

    THOSE WITH MONEY TO LOAN do look at public employees and think they make too much money.

    —-

    This is of course WHY, Matty is only correct in direct proportion to how much he is convincing his side to forget about Fiscal Stimulus.

    The more the left lets go of government deficit spending, the more control they can assert on Monetary policy.

  14. Gravatar of Mark A. Sadowski Mark A. Sadowski
    20. March 2011 at 15:36

    Scott,
    Totally off topic.

    Do you have an opinion about “New Monetarist” Stephen Williamson? Is he really as big a prick as he seems or am I getting the wrong impression from arguing with him here:

    http://newmonetarism.blogspot.com/2011/03/fed-and-inflation.html

  15. Gravatar of Mark A. Sadowski Mark A. Sadowski
    20. March 2011 at 16:11

    Let me redefine this. We did talk civily. But he strikes me as a mathematician with an extremely poor economics intuition. I ought to know the difference because, like him, I have one foot in each academic universe.

  16. Gravatar of anon anon
    20. March 2011 at 17:54

    Benjamin Cole, I think that the benefits or more democracy and transparency will usually outweigh the drawbacks of poor ideas and ideologies.

    For instance, Ron Paul would want to increase support for alternative currency/scrip systems, which are especially effective when monetary policy is too tight. I agree that the current Fed setup is quite effective, but many other things could stand some improvement.

  17. Gravatar of Contemplationist Contemplationist
    20. March 2011 at 21:18

    I don’t care what a policymaker thinks the diagnosis is, if they get the prescription right. So, if Ron Paul moves us to competing currencies – Scottish 19th century style, then I don’t care if he has crank theories of Gold. Monetary equilibrium ftw!

  18. Gravatar of Morgan Warstler Morgan Warstler
    20. March 2011 at 22:44

    Mark…

    Say what you want, but I love the 2% CPI from Jan 2007 – that’s hysterical.

  19. Gravatar of Doc Merlin Doc Merlin
    21. March 2011 at 01:39

    @Marcus Nunes

    ‘That´s the beauty of NGDP level targeting. You know when you should “print more” and conversely “print less” green pieces of paper.’

    And thats exactly why it won’t be implemented. Its not as fudgeable or abusable.

  20. Gravatar of Scott Sumner Scott Sumner
    21. March 2011 at 05:24

    Mark, Thanks, I didn’t notice the comment section.

    Philo, Very interesting point. I’ve always found Yglesias to be the most quasi-monetarist of all the progressives. However he’s still more Keynesian that monetarist.

    Benjamin, Don’t worry about democracy, Paul will never be elected president (even though I once voted for him.)

    Morgan, The Fed can’t prevent bad policy for the fiscal side, or bad tax and regulation policy.

    Mark, I look at his blog on occasion. He seems very smart, but he has a very different worldview from me, and I have a hard time being persuaded by some of his arguments. It’s hard for me to tell what he thinks of demand shocks/nominal shocks, or whatever he calls them. (I recall he doesn’t like Keynesian terminology. I also don’t like the term demand shock–and prefer nominal shock)

    Contemplationist, Didn’t Scotland have currencies tied to gold or silver?

    Mark and Morgan, Someone please save that post for posterity, so I can do a reply in a few years when the 5% to 10% inflation he predicts never happens.

  21. Gravatar of Steve Williamson Steve Williamson
    21. March 2011 at 10:03

    Mark,

    What brought that on? I thought we had a good exchange. I certainly learned something from you. I’m a little hurt, actually.

    Matt,

    1. You’re being too vague. Be more specific about what you have in mind. Do you want to define an output gap and tell the Fed it has to close it?

    2. You should look at the record of actual appointments. I think the regional Fed Presidents stand up well against the Governors. The quasi-private aspect of the regional Feds seems like a strength – competition in ideas.

    Steve Williamson

  22. Gravatar of Steve Williamson Steve Williamson
    21. March 2011 at 10:10

    Oops. I followed a link and thought this was Yglesias’ blog. Read my piece on Ron Paul, you might like it:

    http://newmonetarism.blogspot.com/2011/03/end-fed_11.html

  23. Gravatar of Scott Sumner Scott Sumner
    21. March 2011 at 10:28

    Steve, Great post. Other than price stability being the goal, I agree with everything. I don’t believe the price level is a useful concept, and would prefer a stable NGDP (or stable NGDP growth rate.) But that’s a minor quibble. Otherwise I agree.

  24. Gravatar of Full Employment Hawk Full Employment Hawk
    21. March 2011 at 11:39

    “Almost any economics forum brings forth people braying about the sacred rights of bondholders.”

    What about the sacred rights of workers to a safe, dependable job?

    Putting the rights of bondholder above the rights of workers is class warfare.

  25. Gravatar of Morgan Warstler Morgan Warstler
    21. March 2011 at 12:24

    Steve,

    My question is this… since you can draw that great graph of 2% CPI since 2007, why do we need a big Fed to handle things?

    Can’t we just use a PC to do price level targeting and take the steering wheel out of the bankers hands?

  26. Gravatar of Bababooey Bababooey
    21. March 2011 at 12:28

    Putting the rights of bondholder above the rights of workers is class warfare.

    I think property rights is a longstanding, lately scorned, natural right to hold one’s property safe from uncompensated confiscation (e.g., the takings clause). Your description of workers rights seems to be diametrically opposed– a worker is entitled to someone else’s property.

  27. Gravatar of Morgan Warstler Morgan Warstler
    21. March 2011 at 12:58

    “What about the sacred rights of workers to a safe, dependable job?”

    You keep pricing it out of existence!

  28. Gravatar of Scott Sumner Scott Sumner
    22. March 2011 at 07:18

    I think it’s best to view nominal debt repayments as a legal obligation, and high employment as a policy goal.

  29. Gravatar of Doc Merlin Doc Merlin
    22. March 2011 at 07:36

    @Scott
    “Contemplationist, Didn’t Scotland have currencies tied to gold or silver?”

    Yes, although these currencies were often valued at more than their redemption value in specie. George Selgin has an interesting book about coinage that cover them.

  30. Gravatar of Doc Merlin Doc Merlin
    22. March 2011 at 07:41

    @Morgan:

    Agreed.

  31. Gravatar of Mark A. Sadowski Mark A. Sadowski
    22. March 2011 at 19:53

    Scott,
    With respect to the whole Steven Williamson thing:

    Perhaps I should mention I apologized to Steven for calling him a !@#$%, in response to an email from him. (At least *I* consider it an apology. And *how* he found my UD email address I’ll never know. He’s good.) He’s actually a very polite debater and I learned a great deal from him as well.

    Perhaps the best thing that came out of this is I drew Stephen Williamson into The Money Illusion.

  32. Gravatar of Mark A. Sadowski Mark A. Sadowski
    22. March 2011 at 21:09

    I also noticed that David Beckworth took up where I left off at Steven’s blog.

    Hooray for the tag quasimonetarist team!!! (David might be a better runner than me, but he might not of noticed there was even a race if I dhadn’t bothered to take the first lap.)

  33. Gravatar of Scott Sumner Scott Sumner
    23. March 2011 at 16:55

    Doc Merlin, I’m fine with competing currencies, but I want a single medium of account, and not gold.

    Mark, Thanks for the link to Williamson. He’s more new classical than me, but I should start following his blog regularly, as he’s a talented blogger. So little time . .

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