The wisdom of Eric Rosengren

Tyler Cowen linked to a Binyamin Appelbaum interview of Boston Fed President Eric Rosengren:

Q. A number of the academics at this conference said they don’t think you should be trying to raise rates. What do you make of their hesitations?

A. We haven’t hit 2 percent inflation for a while. Some of them have argued that we should in effect be price-level targeting, which is to say that the misses that we’ve had in the past ought to be made up in the future. So they have a different model than we actually are using for monetary policy. We have an inflation target right now. If we wanted to move to price-level targeting, as was advocated by a number of the academics at the conference, we should have that discussion. We should announce it publicly. I don’t think we should do it without telling the public.

I think also the inability of so many central banks to hit their 2 percent inflation target has caused some people to say, “I want to actually see evidence that you can hit 2 percent, and since we’ve just seen the consequences of hitting the zero lower bound, I want to take out some insurance against hitting the zero lower bound more quickly.” I think both concerns are credible. My concern with those arguments would be that the very scenario that causes the next recession might be that we overshoot.

Rosengren currently favors an increase in the Fed’s target rate, whereas I’m a bit more skeptical.  But I do applaud the way he analyzes these issues.  Level targeting makes a lot of sense, but only if you’ve announced that you are going to do level targeting.  Otherwise it may end up destabilizing the economy.  Monetary policy would react in ways that the markets did not anticipate.

The next recession is likely to have the same cause as the previous one—Fed tightening triggered by inflationary concerns.  If you run 3% inflation for a while because you are doing level targeting of prices, that’s fine.  But if you run 3% inflation, and then tighten because inflation is over your 2% target, then the high inflation could trigger another recession.

That’s why I keep insisting that the Fed needs a completely new strategy (NGDPLT), and that we focus far too much on minor tactical issues, such as the question of whether the Fed will raise rates in December.

In contrast, when the economics profession should have been screaming tight money from the rooftops (say in 2008) they were almost completely silent (except a few MMs, and people like Bob Hetzel.)

PS.  Here’s another quote I like:

So you don’t see instances where we go from 4.2 percent to 4.7 or 5 percent and level off. What you actually see is when we start tightening we end up with a recession.

I’ve done a number of posts pointing to the fact that the US does not have any mini-recessions, whereas our macro models predict that mini-recessions should be more plentiful than actual recessions.  That is, when unemployment start rising, you don’t see it rise 1.0% or 1.5%, and then stop.  It either rises by only a tiny bit, or by a lot.  The Fed needs to prevent those cases where it rises by a lot. (Oddly, other countries do have mini-recessions.)  If we switched to any sort of level targeting (P or NGDP), then I predict the US would start having mini-recessions instead of normal recessions.



11 Responses to “The wisdom of Eric Rosengren”

  1. Gravatar of Ray Lopez Ray Lopez
    18. October 2016 at 09:51

    Note Tyler Cowen correctly states in his blog: “I applaud the interview subject [Rosengren] for demonstrating so clearly that macroeconomics is not a science”. True, economics is not science at all. And what model is the Fed using that assumes such a ‘fine tuning’ of the economy is possible? Fine tuning went out in the 1960s. And why does Sumner feel a series of ‘mini-recessions’ is better than no recession? Personally, I’m sympathetic to having a series of sharp recessions and then sharp rebounds, like in the 19th century, when growth rates (Madisson data) were about the same as today, with our “shock absorber” based mixed economy (60% private, 40% government). Finally, note that Rosengren agrees fiscal policy is very potent, but it’s outside the Fed’s mandate. It contradicts what Sumner said a few posts ago that fiscal policy doesn’t work.

  2. Gravatar of John Hall John Hall
    18. October 2016 at 10:18

    Forecasters haven’t done a good job incorporating demographics into projections. There’s labor economics evidence that younger people earn less than older people (older people also have generally higher productivity than younger people, so this should impact the pace of potential real GDP growth as well). If the population is aging, then at a macro level wage growth will slow. Slowing wage growth leads to slowing prices. It’s happening in virtually every developed country.

    Also, I think you can believe in level targeting and still believe that within the Fed’s framework they should not raise rates. Below is a sketch of the argument:

    All major developed market central banks have all taken their inflation targets to mean inflation ceilings. The moment inflation is about to rise to 2%, they start talking about hiking. What’s so bad about waiting until medium term inflation is closer to 2.25% or 2.5%? Make it a symmetric target.

  3. Gravatar of bill bill
    18. October 2016 at 11:21

    The Fed focuses too much on showing smooth moves in the Fed funds rate. Why not wait until PCE or core PCE (whichever is their target) hits 2.1% and then raise the Fed funds rate by 75 bps?

    Separately, could 2016 be part of a mini-recession of sorts? Unemployment has risen a couple ticks from its bottom 5 months ago and NGDP is growing less than 3% (ie, virtually stagnant on a per capita basis after inflation). In conclusion, it’s not a mini-recession (yet), but could be viewed as the start of one by 2018 if the stagnation in NGDP continues and unemployment rises another few ticks. In fact, if the Fed had reacted more aggressively in the Spring of 2008, 2008 could have been part of a stagnation type mini-recession too.

  4. Gravatar of dtoh dtoh
    18. October 2016 at 15:55

    IMHO the big question to ask the Fed is not what the policy goal is, but rather…why they never hit the policy goal even though they were not out of ammunition. Until the Fed is accountable, there is no incentive for them to pick a more suitable goal or even adhere to the goal. NGDPLT would mean nothing if they treated it with the same cavalier attitude that they treat their current goals.

  5. Gravatar of Don Don
    18. October 2016 at 16:38

    The cynic in me thinks that the Fed is achieving their “secret” goal. I assume pumping money into big banks (interest on reserves) is more important than optimizing for general prosperity through NGDPLT. Of course there could be international political reasons for the sub-optimal policy.

    The non-cynic in me thinks that economics is like religion and the current crop of believers (Fed members) are stuck in their ways and it will take a new generation of leaders, who have grown up seeing the small successes of Australia and England, that will be open to NGDPLT. The Fed members will need to be strong enough to overcome the gold bugs and fixed currency zealots and “grow the government” Keynesians that make a *lot* of noise.

  6. Gravatar of ssumner ssumner
    18. October 2016 at 18:17

    Bill, I define a mini-recession as an increase in the unemployment rate of between 0.9% and 1.8%.

    Never happens.

    dtoh, Recently I’ve been working a lot on the accountability angle. I think my NGDP futures market guardrails (3% to 5%) would provide enough accountability.

    Don, I know these people too well to be that cynical. I don’t think Bernanke is much different from me, other than being more talented. His motives are fine—the problems lie elsewhere.

  7. Gravatar of Benjamin Cole Benjamin Cole
    18. October 2016 at 20:22

    In contrast, when the economics profession should have been screaming tight money from the rooftops (say in 2008) they were almost completely silent (except a few MMs, and people like Bob Hetzel.)–Scott Sumner

    Tight=looser word switch?

    Great post, even if a little generous to Eric Rosengren.

    BTW, Rosengren seems to be saying that 2% is a ceiling, not an average target. If it is an average target, then “overshooting” 2% is not so bad, and does not require immediate correction….

  8. Gravatar of Ray Lopez Ray Lopez
    18. October 2016 at 23:13

    OT–it is just me, or is readership down on this blog? Seems it’s slowly drifting to zero. Oh well, no big loss except to Sumner who loses the ~$15k/yr he makes from this site.

    @Ben Cole–how’s that paywalled site coming along? Not that good huh? (snicker) You need to find paying clients, and most of them don’t read the internet except briefly. I know failure too my friend, I’ve cut back on my chicken business since it was not that profitable (about 0-3% excluding sunk costs, which I’ve written off). Shrinkage, mortality (I don’t like using weight gaining antibiotics except for emergencies for ethical reasons), high feed costs and high live chick buying costs (my incubator failed due to frequent power outages–over 1 hour is usually fatal to developing eggs, and several hour outages are common in the Philippines; commercial growers all us in-house power generators).

    Failure. That’s the story of Scott Sumner’s life, but, it’s OK, we’ve all been there, done that.

  9. Gravatar of B Cole B Cole
    19. October 2016 at 00:25

    Ray–thanks for the kind thoughts. If the Philippines are like Thailand I do not see how you avoid raising chickens. I have semi-feral chickens everywhere. Lay eggs inside of haystacks, in disused farm implements. My turkeys learning to raise too. Ducks are proving a lot easier. Try ducks.

  10. Gravatar of Ray Lopez Ray Lopez
    19. October 2016 at 05:54

    @Ben Cole – We do have ducks, swans, chickens and turkeys (a cobra bit our tom and we must replace him; we killed the snake). I’m talking about raising lots of chickens for profit, not for our own consumption (I was up to 300 chickens a month at the peak). Raising chickens for profit cannot be done by ‘feral free ranging chickens’ like you suggest–there’s not enough food in the countryside to do that.

    OT–reading a good book by Arnold Kling, “Memoirs of a Would-Be Macroeconomist”. Among other virtues, it’s a book written in the rare first person rather than third person. Since Kling is a friend of Scott Sumner it appears, Sumner makes an early cameo. What is Sumner all about? Easy: In the IS-LM model, Sumner’s NGDPLT is nothing more than a vertical LM curve rather than one that is upward sloping. That’s it. So an increase in national income Y will not make people want to hold more money, unlike the classic upward sloping LM curve of the traditional model. BTW, other extreme constructs include: a vertical IS curve, where money is neutral (indeed IMO the evidence does support the IS curve is very steep), or a horizontal LM curve (Keynesian ‘liquidity trap’, yields are zero, Fed finds demand for money so strong that printing money and buying bonds has no effect on the interest rate, since negative rates are not really possible since cash money yields 0%, not negative).

    Velocity is assumed constant in Sumner’s world, otherwise it complicates his model; Kling: “Decades later, Scott Sumner will describe a vertical LM curve as the Fed aiming for a target for nominal GDP.  Sumner calls this special case “monetary offset.”[10]   With either constant velocity or monetary offset, the Fed controls GDP, and fiscal policy has no effect on output and employment.”

    Sumner decoded. Reading these paragraphs made more sense than years of Sumner-speak IMHO.

  11. Gravatar of ssumner ssumner
    20. October 2016 at 12:31

    Ben, I meant scream out against tight money.

    Ray, 15k? Where’s my money!

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