Really dumb arguments
In any crisis situation you find some really dumb arguments. One of the dumbest of all is the claim that cutting interest rates can’t help if no one is going shopping, eating out, or taking vacations, and if supply chains are shut down.
I’ve already done lots of posts here and at Econlog exposing the stupidity of this argument. But here’s another reason:
Unless I’m mistaken, fed funds futures for January 2023 are down to about 0.7%, far lower than 10 days ago. Two things are very clear:
1. The coronavirus is the proximate cause of that decline (sorry Trump).
2. The decline did not occur because markets fear that the coronavirus will prevent people from shopping in January 2023. By that time, the health problem will likely be addressed in some way. Either the virus naturally burns out, a treatment is developed, a vaccine is developed, or something else. The coronavirus is not likely to still be preventing shopping in 2023.
But let’s say I’m wrong and it is still a huge problem in 2023. It’s not like the markets got any new information over the last 10 days making it more likely that we’ll face a problem in 2023; rather markets got information that it’s more likely the virus will spread outside of China this year. But that new information has no bearing on the likelihood of the virus eventually burning out, as did SARS, nor does it give us any new information on treatments or vaccines.
So what is the new information over the past 10 days?
1. Increased probability of a major supply shock this year (not in 2023.)
2. Increased probability that monetary policymakers will not be aggressive enough to prevent a recession, and if the recession occurs then demand will still be rather sluggish in January 2023 because the Fed will be too hawkish in the recovery.
This means that while the stock and bond market’s bearishness about 2020 might be for exactly the “people won’t shop” reasons that are often cited in the media, the increased bearishness about conditions in 2023 are almost certainly due to a loss of confidence in monetary policy.
In other words, we need adequate NGDP in 2023, and if we don’t get it then it will be the Fed’s fault.
PS. Don’t take this as me predicting a recession. There’s still a lot we don’t know about the virus (it seems to be slowing in China.) The level of stock prices is still fairly high, and if the virus doesn’t get too severe in the US then we may avoid a recession. But based on what we know now, a 50 basis point cut is needed ASAP.
PPS. Why is the media argument about shopping and interest rates so dumb? We cut interest rates to prevent policy from tightening. Imagine if you doctor said, “No point in eating food, as your real problem is pneumonia. Just go ahead and starve yourself, as food won’t solve your “real problem.””
PPPS. Hypermind NGDP market’s been somewhat bearish all year. What did they know that the experts did not?
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28. February 2020 at 16:33
I do not think such monetary policy analysts as Stanley Fischer, Ray Dalio, or Adair Turner are wrong when they recommend central banks add the tool of money-financed fiscal programs to their arsenals.
We may see first quarter US GDP begin to contract at a 10% annual rate, as we saw in the fourth quarter of 2008.
Yet we know that the tools the Federal Reserve has presently, that is lower interest rates and quantitative easing, are rather clunky and weak. In addition, the Federal Reserve tends to move rather slowly.
The federal government, and its fiscal response of automatic stabilizers, usually happens after the fact.
What is the point of a slow recovery if the Federal Reserve can help along a fast recovery?
Stanley Fischer advocates a program through which the Federal Reserve could rapidly implement money-fnanced fiscal stimulus, aka a helicopter drop.
One could say the Federal Reserve was slow-footed to react to the 2008 Great Recession, but one could also say the limited tools the Federal Reserve has could only obtain a slow recovery.
Of course every major central bank is somewhat flummoxed by the fact that we have globalized capital markets and that money is a fungible commodity.
To a large extent, the Federal Reserve, with the tools presently at its disposal, is attempting to stimulate the domestic economy through globalized capital markets.
28. February 2020 at 19:22
The hypermind prediction market can see that the Fed is internally divided and a not insubstantial number of voting members aren’t on board with using market predictions to guide policy? That’s my best guess. Or maybe they are just following the markets? Aren’t the real experts at this the people who trade treasuries professionally? They seem to me to have been pretty bearish for at least a few months now, and have been skeptical for years that we would get inflation that averaged around 2% per year. So when the bond traders have been telling you for years that they think the Fed treats 2% as a ceiling, and recently they have been saying that they don’t see compelling evidence that the Fed has changed its biases, it is pretty easy to go with the crowd and bet upon being disappointed by the Fed.
28. February 2020 at 19:29
Benjamin Cole,
While there might be a time in the future in which a helicopter drop is called for, I don’t understand why you insist on this happening now. Why not try to less radical changes first, like level targeting regimes?
Besides, David Beckworth has an excellent idea for how to conduct rule-based helicopter drops on a contingent basis. I doubt many economists would oppose such an approach, after less risky and politically fraught options are tried.
28. February 2020 at 22:42
Michael Sandifer: yes, David Beckworth and also Stanley Fischet have ideas for rules-based systems for Federal Reserve helicopter drops. Adair Turner has called for something similar, along the lines of “helicopter drops on a leash.”
Of course, whether the rules are good or not depends upon how they play out in the real world; does the stimulus arrive in time to suffocate a recession in its crib?
I still think there too much timidity regarding The Apparition of The Inflation Boogeyman. Suffocating a recession in the crib should be the dread intent of every central banker today.
Interestingly enough, my suggestion for immediate payroll tax holidays would not do all that much to stimulate asset values, but would do something to stimulate real aggregate demand.
Thus my suggestion arguably results in more financial stability rather than less. It may be that quantitative easing does result in inflated asset values… walking around on stilts, as it were. And only an indirect way to stimulate real aggregate demand.
You get a coronavirus scare, equity values collapse, property values sink, and then your commercial banks are skating on thin ice.
28. February 2020 at 22:55
Michale Sandifer, add on:
Helicopter drops are not inconsistent with NGDPLT, in fact they may be the only way to get to a NGDPLT effectively.
OK, so let’s say NGDP starts decelerating at a 10% annual rate. So, the Fed cut rates to zero, maybe even negative, and does $200 billion a month in QE. And, suppose nothing happens.
Remember, Japan and Switzerland have had small results on real GDP despite large QE programs (Switzerland’s was gigantic in relation to Swiss GDP). Europe has negative rates, so does Japan
Then, we are waiting to the lumbering federal elephant to stumble into the picture with automatic stabilizers and poorly conceived spending.
In today’s chronically disinflationary-weak demand environment, you want aggressive central banks armed with the choppers.
Times change. Professions change later (with funerals).
Send in the Hueys, the Sikorskys, the Bells. Sheesh, send in the B-52s.
29. February 2020 at 02:32
I fell that saying rate cut can’t cure supply shock exactly like saying there is no cure for the novel coronavirus, so one should take no meds?
There is no direct solution to the supply shock, monetary easing (to keep the NGDP stable) is useful to help reduce the problem caused by the symptoms.
Does this way of thinking make sense to you?
29. February 2020 at 03:01
Jordan Weissmann makes an interesting point: the coronavirus could produce a double-whammy, both a demand shock and a supply shock simultaneously. As to the former, consumers can’t spend a tax cut (for example) if they won’t go out in public for fear of the virus. As to the latter, disruption in supply chains as the result of the virus will cut off access to goods and services – consumers can’t consume what’s not produced. So whether you are a supply shock sort of guy (e.g., Sumner) or a demand shock sort of guy (e.g., Weissmann) your concerns are real.
29. February 2020 at 05:08
Agree. The 10 year has a 1.10% yield. If I imagine how the Fed is thinking, this is what it would be. “Markets react to imperfect information, therefore it is often wrong. We, on the other hand, prefer to have more information before we act”. I do think they believe that. Of course, the irony—-perhaps we can call it that——is they have no better information about the future no matter how long they wait—-but they will have better information about the past. Somehow, for whatever odd reason, that gives them comfort.
29. February 2020 at 05:23
PS. To show you how “freaky” the market is, the e-mini 500 futures contract was up 3.75% between, 3:40pm eastern time until the close in Chicago at 5pm eastern. Why? Have no idea at all. Also, there is a perception the market is less liquid, even as volumes are much higher——and this is true because the “de facto” bid/ask is wider.
What more does Powell need to see——he will wait until March meeting and lower by 25bps——
PPS. Saw Tim Cook say something like “in the long run nothing has changed in our forecast”. What he really was communicating was———it is really scary NOW.
But the Fed is still waiting for more information.
29. February 2020 at 05:31
OMG, Sumner is so clueless. This post is almost as bad as his post the other day that killing off half the planet would not affect the AD curve (shift it to the left) since prices are sticky (apparently this was his point, as Sumner never was clear).
FYI Dr. Sumner, prices for Jan 2023 futures would be affected right now for the same reason interest rates on 30 year bonds are affected: market perceptions and discount rates. You don’t have to be a year away from the maturity (end of) a 30 year bond to affect the rate offered right now, even if the bond doesn’t mature in thirty years.
PS–new Covid-19 cases in China for 2/29/2020 picked up to 500 from 321 the day before, and that should panic the stock market on Monday. I personally think stock indices will go to year 1999 levels, time will tell. My 1% family has over $2M in stocks, so I’m not ‘talking my book’ by being short the market and hoping markets crash (though we will buy if they tank by 50%, since old people dying, which is the main effect of Covid-19, is not that economically bad, speaking as a student of economics).
29. February 2020 at 06:36
I went to that CME link but I could not figure out how to read it. Any guidance would be appreciated.
Here’s a similar link that I could understand:
https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html
It’s clear you are “correct” (air quotes because it’s only correct/better than nothing since they won’t adopt NGDPLT or average inflation targeting).
Actually, even 50 bps isn’t enough per this market. I say that because it currently predicts a 94% chance that the Fed will cut 50 bps in 18 days, yet conditional on that, the modal projection for 9 months from now is 50 bps even lower than that. The Fed is looking likely to embarrass itself. Again.
29. February 2020 at 07:20
Apropos to short memory syndrome———
the swine flu came to our country in 2009. Called H1N1, 60 million Americans have contracted it since 2009 and 12500 have died. It was declared a pandemic in April 2009, by which time “millions” had contracted it, 20,000 hospitalized, and 1000 died. Obama declared it an emergency in October. I raise this issue—-because I don’t remember it being treated like Covid-19.
H1N1 now considered part of normal flu season and is one of 4 types of flu CDC tracks. Articles were written then and more importantly now as well, that “travel bans do not prevent spread”. Interestingly, it is the private sector leading the charge on fear.
Scott’s “scaredy cat” observation seems pretty accurate to me. Perhaps we are too buried in the micro-details of “micro-now” of social media.
How can this be discussed without reference to our previous “flus”? We have a trailing 3 month memory apparatus which is the bigger virus.
29. February 2020 at 08:20
Scott,
The Fed needs to cut at least twice as much as you suggest. I say that, looking at how much short-term nominal rates have fallen, and adding the additional needed rate cut implied in the recent stock selloff, using my model.
As additional support for my perspective, the Fed Funds futures market has already mostly priced in a .5% rate cut for March, and as you point out, a level of nominal rates consistent with the level of cuts I recommend is already reflected further out on the yield curve.
Perhaps you recommend a .5% cut, because the Fed doesn’t normally cut more deeply at a single meeting? If so, the Fed should guarantee another rate cut either in April, or even again in March, in absence of evidence of significant recovery of NGDP growth expectations.
29. February 2020 at 09:07
Cloud, Yes, and we aren’t even asking the Fed to loosen, just to refrain from tightening.
Rayward, You are still missing the point. Demand is determined by monetary policy.
Michael, Good point about the Fed waiting.
Ray, And so you also don’t know what futures markets are.
Bill and Michael, Yes, an even bigger cut would be welcome.
29. February 2020 at 10:39
Hey Scott,
I haven’t been around a while but I still come here when I want the best money analysis on the internet.
Has the Fed yet acknowledged that they control the inflation rate, or are they still technically incompetent?
29. February 2020 at 16:45
Scott Sumner sometimes uses automobile analogies and at other times sailing boat analogies, to explain proper Federal Reserve policy. I like vehicular analogies.
Okay, let us say it is better to avoid an accident (a recession), than to have an accident and try to clean up all the damage afterwards, and then make up for lost progress.
Usually, you don’t know that an accident is going to happen so you don’t have time to respond. Recessions are hard to predict, and in fact orthodox macroeconomist have never predicted a recession as long as the economy is growing in present tense.
But with the coronavirus, we can see the accident waiting to happen down the road. Due to the reactions of media and government, the coronavirus will almost certainly result in both a supply and demand shock in Q1 and Q2, domestically and globally.
Unfortunately, the only tools the Fed has presently are to lower interest rates and engage in quantitative easing. In this case, as in 2008 through 2014, quantitative easing would be a helicopter drop on Wall Street.
Of course, what is needed is a helicopter drop on Main Street.
The federal government can move to more deficit spending, but we all know that that is a delayed and clunky progress and results in a lot of waste. Federal deficit spending happens after the recession, not before.
It is hard to believe at this late date that the United States has not developed a plan for rapid fiscal expansion backed up by helicopter drops. The fiscal expansion would best take place through immediate tax cuts, such as a payroll tax holiday. The Federal Reserve could buy Treasuries and place them into the Social Security fund to make up for lost tax receipts, or simply print the money and put it into the Social Security fund. In either case is it’s a few clicks of the mouse.
But instead, we can see the accident waiting to happen down the road, and we will drive right into that accident.
29. February 2020 at 20:38
Michael Rulle,
Which should make you wonder why that is. And no, it’s not because you and mbka are smarter than the experts.
1. March 2020 at 06:21
Trump followers are going about their business like Coronavirus is just another fake news story. For example, in my low country home (Trump Land), stores have plenty of the hand sanitizers in stock. Not so in Never Trump Land. My point is that Trump, by minimizing the potential impact of coronavirus, is minimizing the potential economic impact of coronavirus. As I have commented before, falling asset prices have set the Fed free to do whatever the Fed chooses to do without worrying about rising asset prices (bubbles). That’s the Monty Python view (Always Look on the Bright Side of Life). But by maintaining the calm among his followers, Trump is adding to the risk of a calamity, including an economic calamity. As for the latter, the Fed might interpret the absence of panic (other than in the stock market) as reason for not intervening, thereby exacerbating the economic risk and reducing the Fed’s ability to avoid the calamity if it arrives. Preemptive intervention might avoid the calamity.
1. March 2020 at 06:23
@ Christian List
Maybe I am “paranoid” but it sounds like you are being sarcastic. There are very few sites I comment on because most commenters are idiots and jackasses. I am not saying you are——but it feels like you are close to the edge. And I really don’t like it.
Unless you have something substantive to say, just skip what I write. Nothing is more irritating than a sarcastic critique, particularly when backed up with a non-sequitur—-like your mysterious unnamed experts—-and your presumptuous view that “I don’t wonder why”.
Believe it or not, this is me being polite.
1. March 2020 at 11:03
Steve, They think they control it, and they do. They think the recent undershoots are due to miscalculation and/or bad luck.
2. March 2020 at 03:20
[…] Scott Sumner has this to say: […]
2. March 2020 at 11:54
@ssumner:
What do you make of the fact that today the stock market got a big bounce, but interest rates kept falling to new lows? This seems double plus ungood and possibly a recession is almost a lock now?