The Fed doesn’t have a new mandate

Marcus Nunes directed me to a recent Project Syndicate piece by Alexander Friedman:

“In this world, there are only two tragedies,” Oscar Wilde once wrote. “One is not getting what one wants, and the other is getting it.” As the US Federal Reserve inches closer to achieving its targets for the domestic economy, it faces growing pressure to normalize monetary policy. But the domestic economy is no longer the Fed’s sole consideration in policymaking. On the contrary, America’s monetary authority has all but explicitly recognized a new mandate: promoting global financial stability.

The US Congress created the Fed in 1913 as an independent agency removed from partisan politics, tasked with ensuring domestic price stability and maximizing domestic employment. Its role has expanded over time, and the Fed, along with many of its developed-country counterparts, has engaged in increasingly unconventional monetary policy – quantitative easing, credit easing, forward guidance, and so on – since the 2008 global financial crisis.

Now, the unconventional has become conventional. A generation of global market participants knows only a world of low (or even negative) interest rates and artificially inflated asset prices.

But the Fed’s dual mandate remains in force. And while the Fed’s recent rhetoric has been dovish, the fundamentals of the US economy – particularly those that supposedly matter most for the Fed – indicate a clear case for further rate hikes.

Consider, first, the Fed’s employment mandate. The unemployment rate is down to just 5%, job growth is strong and consistent, and jobless claims have been on a clear downward trajectory for several years.

As for the price-stability mandate, the oil-price collapse has naturally affected headline figures over the past year, but the trend in core inflation (excluding the energy component) suggests that the Fed is falling behind the curve. Core CPI is at a post-crisis high, having risen 2.3% year on year in February, and 2.2% in March.

As I get older I get steadily grouchier, and that last sentence really set me off. Sometimes I wonder if people who write that sort of thing are intentionally trying to mislead the public, who may not know that the Fed doesn’t target the CPI, indeed it doesn’t even care about the CPI.  But I’ll try to take a deep breath and assume that Mr. Friedman is just someone who is ignorant of the Fed’s actual policy goals, and was not trying to intentionally deceive.  He does work for the Bill and Melinda Gates Foundation, so he’s probably a good guy.

For the record, the Fed targets the PCE index, which has been running below 2% and is expected to continue running below 2%.

What about the main issue, has the Fed adopted a third mandate?  I suppose anything is possible, but older people like Janet Yellen and I are pretty set in our ways.  She’s a traditional Keynesian, who cares a lot about unemployment and low inflation, and I can’t imagine why she would add a third goal.  Here’s what’s really going on.  The global Wicksellian real rate has fallen very sharply, and is likely to stay low.  People like Krugman/DeLong/Summers/Kocherlakota understand this, as do market monetarists, but many people don’t.  To them it seems strange that rates are so low, despite 5% unemployment.

One of the groups that do understand the new reality is the financial markets. When they see a sign of the Fed pushing rates up prematurely, they fire a shot across the bow of the Fed, in the form of a sharp asset price break.

To the uninitiated, that might make the financial markets look sinister, as if they are trying to push the Fed to keep rates low in order to benefit the top 1%.  But in fact traders don’t coordinate their decisions (indeed that would be almost impossible). Stocks falls on signs of excessive tightness because traders genuinely feel that at the current time, even a 2% or 3% fed funds rate would cause a deep recession (which would also hurt the bottom 99%, BTW).


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48 Responses to “The Fed doesn’t have a new mandate”

  1. Gravatar of Brian Donohue Brian Donohue
    14. June 2016 at 06:49

    Alexander Friedman gets EVERYTHING wrong here. The sentence that pissed me off the most:

    “A generation of global market participants knows only a world of low (or even negative) interest rates and artificially inflated asset prices.”

    The S&P 500 has earned a dismal 4.0% annual return this century, over 16.4 years. The stock market is hella less inflated than it was at the end of 1999.

    The 30-year Treasury is at 2.41%, more than 0.5% LOWER than last December, when the Fed started its tightening cycle.

    The S&P 500 dividend yield is almost this high: 2.11%. The last time stock dividend yields rivaled long-term fixed income yields was in the 1940s. Stocks were wildly overvalued then, amirite?

    Next up: Kevin Erdmann with observations on the ongoing real estate bubble.

  2. Gravatar of Brian Donohue Brian Donohue
    14. June 2016 at 06:51

    …and inflation expectations are now below 1.5% as far as the eye can see.

  3. Gravatar of bill bill
    14. June 2016 at 07:24

    I like this post. And I really like Brian D’s 2 comments.
    Isn’t it clear to people that if such a third goal existed, the best way to achieve it is to meet the first two mandates? And the best way to hit the two mandates is NGDPLT?

  4. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    14. June 2016 at 07:36

    I’ll repeat my advice, given several months ago,: Janet Yellen should begin every press conference with this simple phrase; ‘Interest rates are not the price(s) of money.’

  5. Gravatar of collin collin
    14. June 2016 at 07:55

    No there is no third mandate, but it is reasonable for the Fed to look at all data points…And with core inflation poking its head over 2% that is worth considering. (Especially if the core number is being carried by health care cost.) Given at some point (up to 2 years) don’t be surprised oil does back above $60/barrel.

    In many ways this is a strange economy that the whole nation is unhappy despite having a below 5% unemployment…I don’t this has been true for the nation since 1968.

  6. Gravatar of Scott Sumner Scott Sumner
    14. June 2016 at 08:15

    Brian, Great comment.

    Bill, Yup.

    Patrick, Yes, that would be a good idea.

    Collin, If core inflation were above 2% I’d agree with you, but it isn’t.

  7. Gravatar of Benjamin Cole Benjamin Cole
    14. June 2016 at 08:16

    Excellent blogging.

    There is a still-strong tribe that believes money always and everywhere should be tighter.

    BTW German bonds went negative today, a historic first.

    US Treasuries 10 years below 1.60%.

    Institutional investors obviously fear an inflationary holocaust.

  8. Gravatar of Emerson Emerson
    14. June 2016 at 08:17

    On a regular basis I read that the Wicksellian natural rate is currently negative, but I cannot find a source that verifies that.

    Does anyone know of a site that calculates and tracks the Wicksellian rate?

  9. Gravatar of ssumner ssumner
    14. June 2016 at 09:14

    Emerson, It’s not possible to come up with a precise estimate. Most people think it’s negative (in real terms) because the actual real interest rate is negative, and yet we are undershooting the Fed’s inflation target.

  10. Gravatar of Emerson Emerson
    14. June 2016 at 09:41

    ssumner- Thanks for the info

    I have seen many – very complicated ways to calculate the Wicksellian natural rate.

    From your explanation, I infer that one way to estimate it would be to take the current Fed Funds rate – about 0.25% and subtract inflation which is about 1.5%.

    This would give an estimated Wicksellian rate of about negative 1.25%

    Does this seem reasonable?

  11. Gravatar of ssumner ssumner
    14. June 2016 at 09:59

    Emerson. That would give you a rough estimate if you agree with the Fed that we are currently in macroeconomic equilibrium. If you agree with people who think money is too tight, then the Wicksellian rate would be even lower. Those who think money is too easy think that the Wicksellian equilibrium rate is a bit higher. I don’t think many serious observers think the real Wicksellian rate is above zero, at the moment.

  12. Gravatar of Emerson Emerson
    14. June 2016 at 10:33

    I have read that some consider the Wicksellian rate to be about negative 2%

    That seems ominous. If true a significant amount of monetary easing would be appropriate

  13. Gravatar of marcus nunes marcus nunes
    14. June 2016 at 12:33

    AF does not live up to his surname!

  14. Gravatar of Kevin Erdmann Kevin Erdmann
    14. June 2016 at 12:50

    page 103 of the Financial Crisis Inquiry Report:

    “When the Fed started to raise rates in 2004, officials expected mortgage rates to rise, too, slowing growth. Instead, mortgage rates continued to fall for another year. The construction industry continued to build houses, peaking at an annualized rate of 2.27 million starts in January 2006 – more than a 30-year high. As Greenspan told Congress in 2005, this was a “conundrum”….(several paragraphs claiming this was due to an inflow of foreign capital)….It was an ocean of money.”

    – reasoning from a price change
    – tight policy misinterpreted as loose money
    – I hope that future economists look back at this time period in amazement that we created an institution to stabilize monetary policy and that they interpreted that so that their EXPLICIT goal was frequently to slow down REAL economic growth, and basically everyone was ok with that.

    Since the explicit policy was to slow real growth, and especially to slow real housing growth, the Fed continued to tighten even though long term rates were telling them that they were raising rates too far and too fast. This was a “conundrum” to them. Forward rates continued to decline until late 2005 when the Fed Funds rate had pushed high enough to begin to invert the yield curve.

    They were finally pleased with their work when housing starts collapsed, beginning in early 2006. They finally caused real growth to slow! By the time they had sucked enough liquidity out of the market to collapse the private mortgage market in August 2007, CPI Shelter inflation had jumped to 4% before beginning to decline and CPI Core (excluding shelter) had dropped to below 1.5%.

    Their August 2007 Statement:

    “… the housing correction is ongoing…Although the downside risks to growth have increased somewhat, the Committee’s predominant policy concern remains the risk that inflation will fail to moderate as expected.”

    In the midst of all this, in 2016, we still have this bizarre consensus that high asset prices are a problem, when high asset prices are basically a forward indicator of real GDP. I agree with Brian that railing against high asset prices is infuriating, though it is anything but unusual.

    Just as in the Great Depression, we have a stagnant economy because there is a wide political consensus for it.

  15. Gravatar of Gary Anderson Gary Anderson
    14. June 2016 at 12:51

    Time for helicopter money. Past time. Real rates are too low. And I still wonder if demand for bonds as collateral isn’t making things much worse.

  16. Gravatar of Gary Anderson Gary Anderson
    14. June 2016 at 13:06

    I agree with most of what you said, Kevin, but high asset prices should give labor a better wage. I don’t know that that really happens. Assets do go into building houses and increases their cost.

  17. Gravatar of Matthew Waters Matthew Waters
    14. June 2016 at 13:46

    IMO, wicksellian rate is low because most of the world has gotten really old. Demographics in Europe, Japan and China skew heavily to the elderly and US has gotten slightly older. Governments do issue more debt to pay for pension programs, but I think most loan demand happens in prime working years. Less supply of willing borrowers and lower rates.

    This is really complete unsubstantiated conjecture on my part. In any case, low real rates aren’t that abnormal historically. High real rates were an aberration in the 80’s and 90’s, but many on Wall Street still consider that a “normal interest rate environment” since the high rates of the 80’s are when they started working. But the 50’s and 60’s had lower real and nominal rates. The higher rates in the 80’s was due to temporary uncertainty over inflation.

  18. Gravatar of ghirlandaio ghirlandaio
    14. June 2016 at 13:55

    @ Patrick R. Sullivan
    @ Scott Sumner

    Here Is Milton Friedman’s son David on the “Price Of Money” fallacy.

    In your view does David have it right?

    http://daviddfriedman.blogspot.ca/2011/11/price-of-money.html

  19. Gravatar of Jerry Brown Jerry Brown
    14. June 2016 at 15:21

    Alexander Friedman writes as if low rates always means an easy monetary policy stance, when it has seemed that the Fed has been looking for any excuse at all to raise rates for two years now. So the Fed has been signaling tighter money, not easy money. Which through expectations from the signaling, makes this a fairly tight policy stance?

    Anyhow, that’s how I would interpret his column, at least if I thought he wasn’t trying to mislead people intentionally. Is this a reasonable interpretation on my part? If not, where did I go wrong? Any help would be appreciated. I have had a lot of trouble with the expectations channel so am not at all confident with this.

  20. Gravatar of Benjamin Cole Benjamin Cole
    14. June 2016 at 16:24

    Way OT…but libertarians may ponder this…

    “Mateen’s (Orlando shooter) wife was not initially forthcoming with investigators, authorities said, but she began to cooperate and answer investigators’ questions after she was shown closed-circuit TV footage showing her with her husband at various locations in Orlando, among other things, according to two officials briefed on the probe.”

    Egads. I admire the speed and policing…but…the ramifications?

  21. Gravatar of Anand Anand
    14. June 2016 at 17:01

    (offtopic: this is about your post (http://econlog.econlib.org/archives/2016/06/the_left_greece.html) on Econlog on Greece and the left)

    Zerothly, let me make a comment. You write the entire post by simply looking at the headlines. Would you write a blog post simply discussing the headline of a Paul Krugman opinion column without looking at the text? It is of course much easier to caricature the viewpoint of people one doesn’t respect.

    Now, to Greece. You complain that “neoliberalism” is just used as a swear word and is without precision. You may have a slight point here, but I think it can be solved by simply thinking: “stocks versus flows”. The critique in many of the articles is that Greece is being subjected to “neoliberal” programs, not that it was “neoliberal” in the beginning whatever that might mean exactly. Consider the possibility that you and the writers in the articles are using the term in different ways.

    There is a coherent way of thinking about the way the left uses the term “neoliberalism”. Let’s look at the first link in your post, the Guardian article by George Monbiot (not an economist, but a columnist): http://www.theguardian.com/commentisfree/2015/jul/07/greece-financial-elite-democracy-liassez-faire-neoliberalism

    He defines quite clearly what he means by neoliberalism, in the first few paragraphs.

    “IMF’s structural adjustment programmes have forced scores of elected governments to dismantle public spending, destroying health, education and all the means by which the wretched of the earth might improve their lives.

    The same programme is imposed regardless of circumstance: every country the IMF colonises must place the control of inflation ahead of other economic objectives; immediately remove barriers to trade and the flow of capital; liberalise its banking system; reduce government spending on everything bar debt repayments; and privatise assets that can be sold to foreign investors.”

    He goes on to assail the troika for their various sins.

    Now, you may have a different view than Monbiot of whether such measures are good or bad, but one cannot say that this is incoherent, or deny that this is roughly a correct view of what Greece was subjected to when the 2008-9 crisis hit.

    Finally, may I point out that Greece has once again been forced into a bailout and its stock market is lower than when Syriza was in power with Varoufakis as finance minister? The IMF has itself has now refused to be a part of the bailout, saying that the debt is unsustainable. Perhaps there was something to Varoufakis’ critique after all?

  22. Gravatar of Major.Freedom Major.Freedom
    14. June 2016 at 17:46

    “The US Congress created the Fed in 1913 as an independent agency removed from partisan politics, tasked with ensuring domestic price stability and maximizing domestic employment.”

    Bwahahahahahaha

    Anyone who has read “The Creature from Jekyll Island” by Griffin knows that is a bunch of malarky.

  23. Gravatar of Dan W. Dan W.
    14. June 2016 at 17:57

    It may be the natural interest rate is negative because the financial structure of the global economy requires rates to perpetually go lower. Without this happening the global economy seizes up. If this is the case then there are only two options (1) continued reliance on central banks to provide zero and negative interest capital to the financial markets or (2) allow the current system to fail so it can be restructured.

    No policy makers want to their name attached to a global economic crisis. So the expected outcome is for central bankers to talk a lot about returning to a “normal” interest rate world but to provide liquidity injections as required to stave off collapse. In other words, they will make certain the patient has a pulse. But don’t get your hopes up that the patient will be doing cartwheels anytime soon.

  24. Gravatar of msgkings msgkings
    14. June 2016 at 19:14

    @Dan W.: I think the demographic explanation is salient here (as Matthew W above mentioned). The patient is getting old.

  25. Gravatar of Saturos Saturos
    14. June 2016 at 21:34

    Fun For Scott: list of tech bubble predictions http://blog.samaltman.com/were-in-a-bubble

  26. Gravatar of Thomas Aubrey Thomas Aubrey
    14. June 2016 at 23:17

    “Stocks falls on signs of excessive tightness because traders genuinely feel that at the current time, even a 2% or 3% fed funds rate would cause a deep recession.”

    I would argue that the reasons for the gyrations of stock markets are not so straight forward to discern. If it were I’m not sure that you’d be writing this blog:)

  27. Gravatar of Brian Donohue Brian Donohue
    15. June 2016 at 04:20

    Thanks, Scott.

    It seems to me that the “TIPs curve” represents the best expression of the Wicksellian idea. The Fed can move the short-end, but, as you move out, you see the approximate price of real interest rates at future periods, which is a reflection of the consensus expectation for future growth prospects.

  28. Gravatar of TheManFromFairwinds TheManFromFairwinds
    15. June 2016 at 06:39

    Scott, thoughts on Summers’ latest piece?

    https://www.washingtonpost.com/news/wonk/wp/2016/06/14/larry-summers-the-fed-is-making-the-same-mistakes-over-and-over-again/

    Seems to use many market monetarist arguments (TIPS spread, NGDP growth), although he embraces a higher inflation target as opposed to NGDPLT.

  29. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    15. June 2016 at 07:21

    Ghirlandiao, yes, David Friedman has it right. Though his explanation in his ‘Price Theory’ textbook is clearer;

    http://www.daviddfriedman.com/Academic/Price_Theory/PThy_1st_Edn_Ch22/PThy_1st_Edn_Chap_22.html

    But, with David’s choice of parents, it would be next to impossible for him not to understand the crucial difference between the price of buying and the price of renting money.

  30. Gravatar of ssumner ssumner
    15. June 2016 at 08:50

    Kevin, What is your metric for the stance of monetary policy, and do you use that metric consistently?

    ghirlandaio, He’s right that interest rates are not the price of money, but he’s not right in implying that changes in the money supply do not impact interest rates via a liquidity effect.

    Jerry, Yes, he is probably assuming that low rates mean easy money.

    Anand, The IMF certainly did not “force” Greece to adopt “austerity”. People and countries that are bankrupt need to tighten their belts. That’s the way the world works, and that’s the way the world should work. It has nothing to do with neoliberalism. By your logic if the IMF were to now make a bailout loan to Venezuela conditional on austerity it would mean that Venezuela’s problems were now due to neoliberalism. The question is why did Greece end up bankrupt, not what messy things happened as a result of that bankruptcy.

    Sorry, but when leftists blame neoliberalism for economic problems in the least neoliberal advanced economy in the entire world, that’s the big lie.

    And as for not reading the articles, that’s your supposition. I notice that you do not cite any information in any of those articles that undercuts any of my claims.

    In addition, austerity is not even a key tenet of neoliberalism, as any supply-sider can tell you.

    Thanks Saturos, Maybe I’ll do a post.

    Thomas, You said:

    “I would argue that the reasons for the gyrations of stock markets are not so straight forward to discern. If it were I’m not sure that you’d be writing this blog:)”

    The fact that market movements can be explained does not imply they can be predicted, as the market movements respond to new information.

    Thanks Fairwinds, I did a post.

  31. Gravatar of Kevin Erdmann Kevin Erdmann
    15. June 2016 at 12:07

    Scott,
    Falling forward rates while the Fed Funds Rate is rising suggests that short term (or expected short term) rates are above the Wickesellian rate.
    There is a well known Fed model that associates an inverted yield curve with a coming recession, with about a one year lag.
    In this case, as a shorthand I am referring to those factors as “tight” policy.
    Do you think this is incorrect or that I should use a different term?

  32. Gravatar of Thomas Aubrey Thomas Aubrey
    15. June 2016 at 12:40

    I agree that on an ex post basis there are many examples when this is true, but this is not the only reason that can cause stocks to fall.

  33. Gravatar of ssumner ssumner
    15. June 2016 at 18:34

    Kevin,

    1. I do not think that’s a reliable indicator of the stance of monetary policy.

    2. If it is your choice, then you need to use it in every single case. That means that money was easy in 2008-09 as the yield curve was upward sloping. Indeed that’s one reason I don’t like this definition of the stance of monetary policy, it leads to implausible results in many cases.

    Thomas, I agree.

  34. Gravatar of Kevin Erdmann Kevin Erdmann
    15. June 2016 at 21:14

    on number 2) it is a one-sided test. The NY Fed model predicts recessions based on yield curve inversions. Since the inversions happen because the short term rate is pushed up by the Fed, I think we can call it a direct measure of monetary policy. The model makes no determination about other contexts. Yield curves outside of that specific shape could be loose, tight, or moderate. It’s a forward indicator of plunging NGDP. It doesn’t logically follow that 2008-9 policy was loose.

    on number 1) from June 2004 to June 2005, FFR went from 1% to 3%. The forward 10 year/10year rate had ranged between about 5 – 5 1/2%, but had fallen to 4 1/2% by June 2005. In the 60s & 70s, when the Fed was erring toward inflationary conditions, forward rates tended to run up and short rates had to chase them up. Then, in the 1980s and 1990s, when the Fed was gradually taking a disinflationary stance, forward rates would rise at first, then would come back down to converge with short rates. It appears that in the 80s and 90s, when convergence happened, the Fed initially pulled back on short rates to avoid being contractionary. In the 2000s, when the Fed began to raise rates, there was no reaction in forward rates. This was Greenspan’s conundrum, but instead of wondering if this was a sign that they were raising rates before there were inflationary pressures, it appears that the Fed (reasoning from a price change) assumed the low long term rates were stimulative, and it strengthened their resolve to continue raising rates.
    You say that the Fed shouldn’t concern itself with RGDP. I agree. But, the amazing thing in the 2000s is that not only did the Fed concern itself with RGDP, but it explicitly was targeting housing starts, and considered the goal of raising rates to be reducing starts – not only explicitly reducing RGDP growth, but explicitly reducing real investment. (This ties into my work, because the grand error of the period, by everyone, was to conflate rising starts and rising prices, which was the opposite of the truth when you look at the local or regional level. That error led to a consensus view that we had to reduce RGDP to reduce NGDP.)
    I know this is a bit underwhelming as a theory. It is hard to find a statistical relationship between short and long rates, and since it is hard to identify postures over time, it is hard to specify what causes lead to different long term rate shifts. So, this is just based on eyeballing graphs over the past half a dozen business cycles or so. Not to mention it’s a tough sell to convince anyone using the Taylor Rule that policy wasn’t too loose in the 2000s. It doesn’t seem like this should be that tough of a sell regarding NGDP growth. NGDP growth was lower than most previous recovery periods and began to drift down by mid 2006. I don’t think anyone claims the effects of rising rates come immediately.

  35. Gravatar of Anand Anand
    15. June 2016 at 21:56

    Scott,
    My point is that you are fixating on labels instead of the actual descriptions. You are free to use “neoliberal” in whatever way you want, but don’t expect everyone to follow your usage.

    The article by Monbiot was talking mostly not about the run-up up to the Greek crisis, but the response to it. The part of the run up which Monbiot criticized was that he likened the Euro to the gold standard and criticized its inflexibility. He said that since the monetary system is inflexible, the fiscal measures imposed on Greece are destructive.

    I know that you do not think that fiscal measures are effective, but the description which I gave is hardly a radical viewpoint: this is an utterly banal Keynesian story.

    As for tightening the belts, who exactly is saying that Greece does not need to tighten their belts? Did Varoufakis say: we should receive a bailout and run deficits? No, in fact he said the opposite: there should be no bailout and Greece should run a primary surplus. The objections were to the extraordinarily high level of surplus required and the things which needed to be cut to meet the surplus: health, pensions and so on. Surely, you agree that troika program for Greece wasn’t a well-designed and feasible one, which would have put Greece on the path of sustainable recovery?

  36. Gravatar of Major.Freedom Major.Freedom
    16. June 2016 at 15:06

    Sumner wrote:

    “Anand, The IMF certainly did not “force” Greece to adopt “austerity”. People and countries that are bankrupt need to tighten their belts. That’s the way the world works, and that’s the way the world should work. It has nothing to do with neoliberalism. By your logic if the IMF were to now make a bailout loan to Venezuela conditional on austerity it would mean that Venezuela’s problems were now due to neoliberalism. The question is why did Greece end up bankrupt, not what messy things happened as a result of that bankruptcy.”

    Oh no no no, you can’t say that. According to your worldview, it does not matter WHY or HOW significant events occur. That is what you said about why there are periodic and significant increases in demand for money holding such that aggregate spending fluctuates. In your worldview, all that matters is what to do to going forward.

    Now you are demanding that someone else answer why? See, whenever your own beliefs about money are being refuted left right and centre, you feign ignorance and pretend that it doesn’t matter why or how demand for money holding rose. This is of course to avoid publicly critiquing your own beliefs to such a standard. For if it was questioned why demand for money holding fell so drastically, that may implicate, or at least make possible, the Fed’s prior “stable” monetary policy. THAT is why you contradict yourself. You cannot even remain consistent in how you promote your beliefs and attack other people’s beliefs. It is a double standard you’re peddling.

  37. Gravatar of Major.Freedom Major.Freedom
    16. June 2016 at 15:27

    Sumner asked:

    “Kevin, What is your metric for the stance of monetary policy, and do you use that metric consistently?”

    What is the “stance” of how well constructed a yardstick happens to be?

    The “stance” of any particular concept must be external to it. NGDP cannot be a logical “stance” of monetary polocy, because NGDP is itself a variable within monetary activity.

    The “stance” of monetary policy must be external to all monetary policy. Or else you would be saying the equivalent of “The “stance” of the accuracy of a yardstick is a property within the yardstick itself.”

    The ACTUAL “stance” of monetary policy is absence of monetary policy. In other words, a laissez faire standard.

    Oh, but MF, that standard is not observable, hence it is “not useful”. Quite right! It is certainly not useful to the promoters of socialist money and monetary policy. But it is useful to those of us who find the free market useful. The same way that freedom of a person is the actual “stance” of a slave’s slavery. That slave’s freedom is also not observable, and the concept of that slave’s emancipated state would also be “not useful”…to the promoters and practitioners or slavery. But freedom would certainly be useful to the slave!

    This is why Sumner can only treat and phrase the “stance” of monetary policy as “my stance” and “your stance” and “his stance”. When you conceptualize monetary policy as stripped from everything else, abstracted and thought as a freely floating concept in thin air, there are no actual rational, objectively grounded (i.e. praxeologically grounded) discoveries of the “stance” of any concept. Practically speaking Sumner’s concept of a “stance” can only be settled by political power, intimidation, coercion, and domination. If reason were the standard, Sumner would have to consider the standard of monetary policy as the free market. A big no no to monetary socialists.

  38. Gravatar of ssumner ssumner
    17. June 2016 at 10:12

    Kevin, I still don’t know how you determine the stance of monetary policy. Yes, an inverted yield curve may be a symptom of tight money, but that still doesn’t tell us how we measure the stance of monetary policy. You need to be consistent.

    It’s also true that falling stock prices are often a symptom of tight money, but I don’t think anyone would claim money was tight in 1987.

    Or suppose someone said “sometimes I use a falling money supply, and sometimes I use rising short term rates, and sometimes I use falling TIPS spreads.”

    You can’t use different metrics for different periods, or else people will just think you are cherry picking.

    Anand, If I define neoliberalism as “free market policies” and some left winger defines it as “anything I don’t like about the world”, you claim that my definition is the unconventional one?

    You said:

    “I know that you do not think that fiscal measures are effective, but the description which I gave is hardly a radical viewpoint: this is an utterly banal Keynesian story.”

    This has nothing to do with Keynesian economics. Greece had to start spending less because they were broke. No one forced them to spend less, they simply ran out of money. Without loans from the troika, they would have needed to make even deeper cuts. In any case, (new) Keynesian economics is neither neoliberal or anti-neoliberal, it’s essentially unrelated.

    You asked:

    “Surely, you agree that troika program for Greece wasn’t a well-designed and feasible one, which would have put Greece on the path of sustainable recovery?”

    I haven’t read their program in detail, but based on news reports it seems less bad than the polices actually pursued by Syriza. They encouraged Greece to do privatization, deregulation, tax reform etc., ideas almost everyone concedes are needed in Greece. Even someone like Krugman would probably be viewed as a conservative if he lived in Greece, which has some of the worst statist policies in the entire developed world. Switzerland also has tight money, but much better supply-side policies. The mistake people make is to go from the true statement that the eurozone recession was caused by a demand shortfall, to the false assumption that variations within the eurozone were caused by variations in demand.

  39. Gravatar of Kevin Erdmann Kevin Erdmann
    17. June 2016 at 11:56

    Scott, I’m not sure what you are talking about. The yield curve indicator is a widely noted model, developed at the New York Fed that has systematically projected recessions. You might be able to claim it is data mining, but I don’t know how you can think it’s arbitrary or cherry picking. It’s quite systematic. The next time it inverts (though this is distorted now by the zlb), I can guarantee you I will have a long position on forward Eurodollar contracts.

  40. Gravatar of Scott Sumner Scott Sumner
    17. June 2016 at 14:41

    Kevin, Let me ask the question this way. What is your definition of tight money? What is your definition of easy money?

  41. Gravatar of Kevin Erdmann Kevin Erdmann
    17. June 2016 at 17:59

    That’s a tricky question, isn’t it? I’m happy to go along with NGDP growth as a fundamental way of describing it. But, since this hasn’t been a stated target of the Fed, I’m not sure how to use it. You like 5% as a forward goal, but I don’t see any reason that should be a dividing line for loose vs. tight in the past. 2% inflation works for me, although obviously that has problems during a period like 2006-2008 where several supply shocks were significant.

    The inverted yield curve model is a forward indicator of a coming negative NGDP shock. The tight money policy is clearly related to the inversion, and the effects on the economy are lagged. In finance, where the quest for forward indicators is strong, and EMH anomalies tend to disappear after being published, I don’t know if there is a model that has more of a chance to continue being a forward indicator of economic contraction than the inverted yield curve model.

    It’s like asking if I think guns are dangerous. Everyone will be arguing about that abstraction forever. I can say confidently that pointing a loaded gun at your own head and pulling the trigger is dangerous. That says nothing about whether I think they are useful in general or what the appropriate use of guns is in various situations. The inverted yield curve is the loaded gun pointed at your head of monetary policy. It (thus far) has indicated very bad news in the near future.

    One thing I have found is that forward rates seem to be unbiased forecasts of future rates when the yield curve is not inverted, but when the yield curve is inverted, future rates tend to fall much more than forward rates imply they will. That suggests to me that there is some sort of mitigating force in forward rate markets, especially at lower rate levels, that prevents forward rates from moving very far below short term rates, so that the inversion leads to dislocation in financial markets.
    I wonder if it could be because for long duration fixed income yields to clear (including equity in real estate), prices of those assets and securities need to rise. But, rising prices require liquidity, and the Fed is usually being stingy about liquidity, related to the rise in short term rates that creates the inverted curve. Maybe it is the opposite effect of the changing demand for base money at the lower bound, where it looks like the Fed is being accommodative, but really demand for money is rising. When the Fed has become dangerously tight, forward yields should collapse in response, but this creates a large demand for currency, which the Fed isn’t meeting. They aren’t pulling that much money from circulation, but the inversion creates extra demand for money.

    Housing has tended to be forward indicator in the business cycle, and I wonder if it is related to this issue, that housing starts fall because natural forward rates are falling, but since with homes, price is the functional variable that must adjust, prices can’t rise to induce land to new housing. So, the inverted yield curve, the tendency of housing starts to lead recessions, and the bias of forward rates when the curve inverts, all seem like they might be related.

    Anyway, that’s more than you asked for. Is there anything in my pet theory about the inversion that seems obviously wrong? (PS. In my housing boom analysis, I use this because I consider it an uncontroversial signal. But, other indicators that might confirm that conclusion seem to. Rates had been hiked, currency growth had been low and was slowing, and in the period after the inversion, NGDP growth declined. It doesn’t seem like it should be controversial. Rising home prices until 2005 I think have caused many to overestimate the accommodative posture of the Fed at the time, but housing starts took a sharp downward turn as the curve inverted and prices didn’t go up after that. In either real or nominal terms, GDP growth from mid 2006 onward was at levels that had previously been associated with recessions or imminent recessions most of the time. Of all the claims I am making in the book, this seems like it shouldn’t be one of the more controversial ones.)

  42. Gravatar of Kevin Erdmann Kevin Erdmann
    19. June 2016 at 10:22

    Here is a Fred graph of home prices, yield curve spread, and housing starts (I added a second home price measure so that we can see further back in time than Case-Shiller). All the sharpest declines in housing starts are associated with yield curve inversions, and home price appreciation is usually strong at the point that the inversion happens and starts begin to decline.

    So, my thesis is that when liquidity is pulled back too much, real economic prospects decline. This leads to falling forward real interest rates, which naturally increase the market price of real estate. A rising market price in real estate creates demand for liquidity, which is not available because the drawback in liquidity was the trigger for the event. So, there is a negative feedback loop that creates dropping long term market rates until the Fed switches to a more accommodative posture.

    The 2001 recession only had very slight declines in starts and prices because the inversion was shallow and short lived. The Fed switched to an accommodative posture quickly, avoiding the typical negative feedback problem. The subsequent price bubble happened because there is no outlet for housing expansion where it is valuable. The Fed gets blamed for that, ironically, because of their especially good management of monetary policy in 2001.

  43. Gravatar of Kevin Erdmann Kevin Erdmann
    19. June 2016 at 10:22

    Oops. Here’s the graph.
    https://fred.stlouisfed.org/graph/?g=4MEK

  44. Gravatar of ssumner ssumner
    19. June 2016 at 12:42

    Kevin, You said:

    “That’s a tricky question, isn’t it? I’m happy to go along with NGDP growth as a fundamental way of describing it. But, since this hasn’t been a stated target of the Fed, I’m not sure how to use it. You like 5% as a forward goal, but I don’t see any reason that should be a dividing line for loose vs. tight in the past. 2% inflation works for me, although obviously that has problems during a period like 2006-2008 where several supply shocks were significant.”

    No, it is not a trick question. The fact that it may seem like a trick question is an indication that there is a problem in your worldview. You are doing something I see quite often, cherry picking data points that fit your story. But that isn’t going to convince anyone else, nor should it.

    Look at the comment section of my recent India post, there are people claiming money in India was tight, or at least linking to articles that make that claim. And they cherry pick all sorts of irrelevant data. One can ALWAYS find at least one data point that supports any hypothesis.

    I agree that both stock prices and the slope of yield curves are somewhat correlated with tight money. But they are not in and of themselves tight money. Stocks did poorly and the yield curve inverted around 1980, but money was not tight.

    Even if inverted yield curves were 100% accurate in forecasting recessions (and they are not, which is why economists have failed to forecast almost every recent recession) that would still provide no indication at all that they represent tight money. You can’t just say an inverted yield curve represents tight money–what makes you think the Fed even controls the inversion? Greenspan found it a conundrum, suggesting it was unintended.

    Here’s an analogy. Falling housing starts may be correlated with tight money, but they are not tight money. Housing starts might fall because the government tightens zoning laws, or tightens bank lending standards, or because immigration slows, or any number of other factors unrelated to monetary policy.

  45. Gravatar of Major.Freedom Major.Freedom
    19. June 2016 at 12:54

    “One can ALWAYS find at least one data point that supports any hypothesis.”

    You mean like choosing RGDP when you agitprop for NGDPLT?

    “Stocks did poorly and the yield curve inverted around 1980, but money was not tight.”

    Not tight by your definition, but then nobody said your definition was “the” definition. Someone who defines “tight in 1980” as “The Fed raising the Fed funds rate” would have been right to say “tight money was associated with stocks doing poorly”.

    Your definition of tight and loose as based on NGDP is just your own arbitrary standard. It does not take into account the subjective value judgments of ALL individuals, i.e. a free market, which is the non-arbitrary standard.

    “You can’t just say an inverted yield curve represents tight money–what makes you think the Fed even controls the inversion? Greenspan found it a conundrum, suggesting it was unintended.”

    Well then so was the decline in NGDP 2008-2009 not an example of tight money. The Fed did not INTEND for NGDP to fall. Yet you continue to say money was tight because of what happened to NGDP. And no, it is not a rebuttal to this to say “Even by prices money was tight”. Your claim is that money is tight because of falling NGDP. Which is not even considered by the Fed.

    Can you at least TRY to be consistent in standards?

  46. Gravatar of Kevin Erdmann Kevin Erdmann
    19. June 2016 at 15:02

    I didn’t say it was a trick question. I said it was a tricky question. I’m afraid that was an unfortunate misreading. I guess I should have written “difficult”.

  47. Gravatar of Kevin Erdmann Kevin Erdmann
    19. June 2016 at 18:21

    As for the substance:
    1) I considered the inverted yield curve to be the most important cyclical signal before I cared at all about housing or even heard of market monetarism, so it may not be convincing, but it can’t possibly be cherry picking. Literally anything else I have written in the past year would be a more likely candidate for cherry picking than this. It may be wrong, regarding substance, but it can’t be cherry picking, regarding intent or process. I will concede that there is a (slight) non-zero chance that practically everything else in my narrative about the housing boom and bust is cherry picking. Not this.

    2) The inverted yield curve is a monetary signal at the second derivative. 1980 monetary policy was loose at the first derivative and tight at the second derivative.

    3) On the issue of my last few posts, I am not so concerned about this topic as a part of my contrarian housing story as I am just as a general thought regarding business cycles going forward. If it shows up in the book, it is more likely to be in the epilogue than in the boom and bust timeline section. The fact that forward rates have been unbiased when the yield curve has not been flat or inverted but have been biased upward when it has been has been a mystery I have wondered about for some time, and it seems as though the role of housing, in general, in economic contractions may be of interest. Is there an obvious flaw in my reasoning regarding the relationship between the demand for money, long term real interest rates, and real estate values? That’s the question I’m most interested in thinking about here.

    4) I have never claimed that falling stock prices are a sign of tight money. I don’t think this has much bearing on the yield curve issue.

    5) At this point, I have hijacked the thread for my pet issue, so you are not obligated to spend your limited time thinking carefully about it. I am curious, though, if there is any potential meat on the bones of my idea of this yield curve bias issue, and if anyone has written about it. Eventually, I’d like to get feedback on it.

  48. Gravatar of ssumner ssumner
    23. June 2016 at 12:44

    Kevin, Sorry for the delay. I think the problem I see is that you are conflating “cyclical indicator” with monetary policy indicator. Suppose some non-monetary factor causes a recession. You still might see the yield curve invert before the recession, even though there is (by assumption) no causal relationship between monetary policy and the recession, in that case.

    That’s why I mentioned stock prices, they are very similar to the yield curve. Both are among the best recession forecasters, although both are far from perfect. But neither is a pure indicator of monetary policy, rather they are variables that sometimes reflect monetary shocks. But the shocks themselves are something else.

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