Why we need shock treatment

When it looked like the Fed would cut raise rates by 25 basis points last month, I favored 50. Next meeting they are leaning toward 50, and so naturally I favor 75.

My views might seem inconsistent, but I am consistently favoring tightening policy by more than markets expect, because the expected rate of raising interest rates is not expected to achieve on-target average inflation.

When the economy is in equilibrium, shock treatment risks pushing the economy into recession, and hence is a bad idea. When the economy is severely overheated, shock treatment risks pushing the economy back to equilibrium, and hence is a good idea.



27 Responses to “Why we need shock treatment”

  1. Gravatar of Michael Sandifer Michael Sandifer
    22. April 2022 at 14:11

    This makes sense, assuming most are right that the inflation problem going out years is mostly a monetary phenomenon. It certainly seems likely that’s true at this point, with 5 year core PCE inflation expectations at around 3%, but perhaps it’s wrong.

  2. Gravatar of Will Will
    22. April 2022 at 14:45

    *Cut* rates? A brain fart?

  3. Gravatar of David S David S
    22. April 2022 at 15:34

    Cut rates, raise rates, meh.
    Scott can correct that, but we got his point. He also spelled “Trump” as “Thump” in a prior post—but please don’t correct that.

    Fed should also make a clear statement about doing whatever it takes to squash inflation as forward guidance. I’m tired of these weekly price hikes on bacon and eggs.

  4. Gravatar of mpowell mpowell
    22. April 2022 at 18:08

    I have to agree. Is a target of 1% really going to slow down this economy? Does anyone actually believe this? Or if you’re afraid of a big jump, increase the target 0.25% every 2 weeks. You let expectations become uncertain, now stop being vague. Targets 2-3 years out don’t mean anything given the past 12 months. Make it clear you’re going to keep hiking rates at a rapid pace until inflation starts clearly coming down. Then *do it*.

  5. Gravatar of marcus nunes marcus nunes
    23. April 2022 at 03:51

    I discuss a more MM oriented solution!

  6. Gravatar of Rodrigo Rodrigo
    23. April 2022 at 04:37

    The market is at 3% ff by year end and inflation expectations are holding steadily north of 3.3%. Should the fed telegraph they will be at 5% by year end? Or by mid year? Either way how is the fed going to bring down expectations without completely destroying asset prices? Not sure I favor the idea the market is tanking because the fed is not hawkish enough since the announcement of the balance sheet runoff marked the peak of the march rally.

  7. Gravatar of sd0000 sd0000
    23. April 2022 at 07:32

    Scott – just following up on my post from the other thread – if the yen weakened against other currencies by 20% or so – shouldn’t imports get much more expensive in Japan and therefore lead to inflation? If in a theoretical example the Yen falls to 1000 Y per each dollar, it would surely have to cause some kind of inflation, right? Is the lack of inflation in Japan temporary because businesses are eating increased cost of foreign goods?

    I still don’t understand what it means that the US has had more inflation than Europe but dollar has strengthened against European currencies. Does anyone have a model that would explain that?

  8. Gravatar of ssumner ssumner
    23. April 2022 at 08:01

    Rodrigo, No, the Fed should not spell out a path for interest rates. Interest rates should reflect the state of the economy, which is hard to predict. The Fed should do whatever it takes to hit its target. I favor 75 basis points as a signal of seriousness, not because it alone will do much.

    The problem today is that the Fed has abandoned its commitments.

    sd0000, In an accounting sense the yen has depreciated by about 20% in real terms in the past year, much more over the past 30 years. Yes, there are models of the real exchange rate, and I could cite a number of factors that might play a role, but these models are not particularly satisfactory. I don’t know why the yen has fallen so far in real terms.

    You are correct that setting the yen at 1000 would create almost immediate hyperinflation.

  9. Gravatar of Michael Rulle Michael Rulle
    23. April 2022 at 08:58

    Their target is “3.9”% NGDP. Or should be as you have said. Or, FAIT should go right to small deflation——right? —-except they forgot they had FAIT—-by claiming they never had it—still one of the most remarkable denials ever seen. Now what?

    Can we hit the nail on the head? You have always stated they “know how to do it” —-they just need to decide to do it. Therefore, as you have said before, why not go right at it? I am pretty sure it does not want 8.5 (Although PCE core is 5.4–which it surely does not want either)

    So what would happen if Fed popped a 1.5 hike Monday (assuming that impacts target NGDP—-I get confused on I-rates as an implementer of target NGDP)?

    I think the market would freak——-they will think Fed’s view of inflation is even worse.

    Volcker scared the bejesus out of the market. Was he right? It ended up right—-but not before a freak out.

    I have no idea how this game should be played.

  10. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    23. April 2022 at 12:19

    The blood bath in stocks is just beginning. We’re at the beginning of the 3rd Elliott wave down.

    Pat Buchanan echos my sentiments:

    There’s no shock treatment that’s going to work. You’d have to drain the money stock (reported with Powell’s delay next Tuesday). Any deceleration in price rises will have to be accompanied by a commensurate long-term deceleration in money flows, the volume and velocity of our means-of-payment money.

  11. Gravatar of Gordon Gordon
    23. April 2022 at 12:36

    Scott, in the 3 months ending in February 2022, the annual growth rate for nominal personal income was only 3.4%. Doesn’t this suggest that nominal aggregates are not heading badly out of equilibrium? And in the past, haven’t market monetarists pointed out that monetary policy is more than just the current federal funds rate? Powell and other Fed board members have set expectations of tightening since last fall. And even before the rate hike in March the Fed increased the size of its overnight reverse repo holdings by $1.7 trillion.

  12. Gravatar of ssumner ssumner
    23. April 2022 at 14:40

    Gordon, All the forecasts that I am seeing show NGDP rising fast again in 2022. We’ll see what the data looks like next week.

  13. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    24. April 2022 at 09:01

    @marcus nunes. Good dissection of supply vs. demand side forces. But Cochrane is right, it’s stock vs. flow. Banks don’t lend deposits. Deposits are the result of lending. Ergo, all bank-held savings are lost to both consumption and investment. The impoundment of monetary savings is directly responsible for secular stagnation. Both stagflation and secular stagnation were predicted in 1961.

    AD = M*Vt where N-gDp is a subset and proxy. The data shows that long-term monetary flows (its two-year rate-of-change), the volume and velocity of money, the proxy for inflation, remains historically, excessively high. As such, it is an incontrovertible fact that demand-side policies are responsible for the intolerable rates of N-gDp / inflation – irrespective of supply-side issues.

  14. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    24. April 2022 at 10:01

    As Sumner said: “In market monetarist framing, the excess savings are viewed as a contributing factor making monetary policy more expansionary”

    And Powell unleased savings deposits by “amending Regulation D, allowing consumers to make an unlimited amount of withdrawals or deposits from savings deposit accounts instead of being capped at six.”

    When Volcker unleased NOW accounts, ATS accounts, etc., the transactions velocity of money accelerated by 70% (from Jan 1980 to Dec 1981).

  15. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    24. April 2022 at 10:28

    There are short-term money flows, a 10 month rate-of-change, generally a proxy for R-gDp. And there are long-term money flows, a 24 month rate-of-change, a proxy for inflation.

    Any tightening of monetary policy affects the short-term roc relative to the long-term roc. Thus, if you cut R-gDp, you get a recession, but inflation still lingers. It takes a committed long-term policy to reduce the damage that Powell has so cavalierly created.

  16. Gravatar of Murita Murita
    24. April 2022 at 12:46

    How can you guys continue down this path with a straight face? You know Bitcoin is the future. The Fed and its fiat manipulation is the past. And there is nothing you can do to stop it.

    You are all smart enough to see what is happening, and you all know it is not sustainable. Soon, you will be in negative territory, like Japan, and the only thing holding up your economy will be the manipulation of your currency – i.e., buying and selling by the IMF. And like Japan, the U.S. is totally bankrupt, so why are you still trying to create this illusion of stability?

    Just let the economy fail. It will be rough for a few years, but it will correct itself after wages and asset prices drop. Bad policies create bad economies, so stop subsidizing the bad policy. The best way to end socialism slavery, and to ensure world peace, is to end the power structure that is endangering us. We know where this leads, and so before we get to that doomsday where these feudalistic governments go to war to protect their bankrupt economies and institute a new world order, by which I mean a new Bretton woods style monetary order, why not start speaking the truth and liberate people’s minds? Every single one of you – even Sumner, who has in the past sided with the BLM marxists and other democrat party socialists – knows that the end is near. So have the courage to level with the American people.

    If you are worried about speaking out, because your chances of being picked for the Fed will cease – all I have to say is that for the young economists it’s unlikely the Fed will be around in thirty years, so your chances are almost zero. You might as well speak up.

  17. Gravatar of Aldrey Aldrey
    24. April 2022 at 15:55

    Hello Scott, any comments on nominalthoughts new post?


    He basically saying: “There is overwhelming econometric evidence to suggest that, empirically, monetary policy makers do not fully offset fiscal shocks.”

    Would like your thoughts abt it.

  18. Gravatar of bill bill
    25. April 2022 at 05:19

    I’ve been thinking this too. 5 year breakevens, 10 year BEs, and even the 5 year, 5 years forward all indicate that inflation expectations are getting unanchored. And this, even while the market expects the Fed to raise the fed funds rate by 300 basis points over the next 9 meetings (12 months). With that in mind, the Fed needs to retake control of market expectations and the only way to do that is by moving this instrument faster than expected. And then see what the next 6 weeks brings. Until the 10 year breakeven is lower than 2% PCE (2.25% CPI) the Fed has to tighten faster than the market expects. I hope they realize that. That 50bps per meeting could lead to a long cycle of 50bps per meeting.

  19. Gravatar of Lizard Man Lizard Man
    25. April 2022 at 06:35

    Why not 100 basis points? That would surprise the markets even more. Is an extra 25 basis points enough to convince decision makers that the Fed is really serious? If the Fed is overly conservative why should people believe that they are serious about bringing down inflation?

  20. Gravatar of ssumner ssumner
    25. April 2022 at 08:26

    Murita, “If you are worried about speaking out, because your chances of being picked for the Fed will cease”

    Yeah, people constantly ask me why I don’t ever criticize the Fed.


    Aldrey, There’s a lot to be said on that issue. Regarding military spending, I agree the multiplier is positive for measured RGDP. But modern fiscal stimulus is overwhelmingly tax and transfers, not real government output. That’s why I focus on NGDP. The fiscal austerity of 2013 did not slow growth.

    Lizard, “Is an extra 25 basis points enough to convince decision makers that the Fed is really serious?”

    The most important thing is for the Fed to actually BECOME SERIOUS.

  21. Gravatar of Jason Jason
    25. April 2022 at 11:48

    Hey Scott,

    Just wanted to mention that I did a short follow up on the post that Aldrey linked.


    I do agree with on the issue, the real issue is something I alluded to in a tweet.


    Just something I wanted to clarify, thanks!

  22. Gravatar of ssumner ssumner
    25. April 2022 at 15:17

    Jason, Do you have a link to the follow-up post?

    Regarding the tweet, I agree that the multiplier is only zero with optimal monetary policy; in the real world it might be positive or negative.

  23. Gravatar of Jason Jason
    25. April 2022 at 16:27

    My mistake, that *was* the follow up post. I thought Aldrey had linked another post where I was more critical(not representative of my current views).

    Nonetheless, we don’t disagree!

  24. Gravatar of ChrisinVa ChrisinVa
    26. April 2022 at 07:10


    Forgive me as I come up to speed. As a market monetarist, why are you not advocating for a significant reduction in Fed balance sheet instead of changes in interest rates? Or is it just that no one is focused on the balance sheet, so your comments are about what everyone IS focused on, which is interest rates?

    In other words, if Scott Sumner were running the Fed, what would be the actions, given what we know now (latest inflation data, latest NGDP level, etc.)? Assuming 2% was still the target for inflation (which may not be your preferred value, and may not be the Fed’s target either).

  25. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    26. April 2022 at 07:36

    Sumner’s idea is a good one. It comes at a time when the economy is in a seasonal rebound (after Atlanta gDp now is reading 1.3% for the 1st qtr.). There are 5 seasonal inflection points each year.

    Tightening now will help in the 4th qtr. this year when long-term money flows subside.

  26. Gravatar of Spencer Bradley Hall Spencer Bradley Hall
    26. April 2022 at 08:00

    Correction: These are the 6 seasonal inflection points (they may vary a little from year to year):

    Pivot ↓ #1 3rd week in Jan.
    Pivot ↑ #2 mid Mar.
    Pivot ↓ #3 May 5,
    Pivot ↑ #4 mid Jun.
    Pivot ↓ #5 July 21,
    Pivot ↑ #6 2-3 week in Oct.

  27. Gravatar of ssumner ssumner
    26. April 2022 at 08:03

    Chris, Yes, I’d prefer shrinking the balance sheet. I was describing policy in terms of the Fed’s currently way of operating.

Leave a Reply