1. Pat Kehoe was terminated as an employee of the Federal Reserve Bank of Minneapolis. "Terminated" is when you are told to leave the building.
2. Ellen McGrattan will be a full-time employee of the University of Minnesota as of January 1, and will be on leave from the Federal Reserve Bank of Minneapolis.
3. Kei-Mu Yi, formerly the Research Director at the Minneapolis Fed, is now a Special Advisor to the President of the Minneapois Fed. Kei-Mu's replacement is Sam Schulhofer-Wohl.
4. Second-hand reports tell us that many of full-time employees and consultants at the Minneapolis Fed are uncertain about what (1)-(3) might mean for the institution and for them as individuals. They seem no more informed about why (1)-(3) happened than anyone on the outside.
I was for the most part pleased with how this story was reported in the mainstream media. Reporters at the Minneapolis Star-Tribune, the Financial Times, the Wall Street Journal, and other outlets were fair, I think. They talked to the people involved, and covered the story the way good reporters should. What went on in the economics blogosphere I think is revealing of what this medium can and cannot do. In many cases, bloggers dived into the story and did what they do best. They made stuff up, or repeated things that have become "blog truths" - basically fiction that, when repeated often enough, somehow becomes truthy.
So, this runs from the outrageous to the comical, covering all points in between. First up is Nick Rowe. Nicks points out that Kocherlakota said two "stupid" things in speeches, argues that this was probably the fault of stupid advisers, and so no wonder the stupid advisers were fired.
I think he fired his advisers because he realised they had failed to do their job.So, first, that's factually incorrect, as only one person was actually fired, i.e. terminated. Second, where Nick sees stupidity, others may not. Nick's first example of stupidity is from one of Narayana's 2010 speeches, which goes like this:
It is conventional for central banks to attribute deflationary outcomes to temporary shortfalls in aggregate demand. Given that interpretation, central banks then respond to deflation by easing monetary policy in order to generate extra demand. Unfortunately, this conventional response leads to problems if followed for too long. The fed funds rate is roughly the sum of two components: the real, net-of-inflation, return on safe short-term investments and anticipated inflation. Monetary policy does affect the real return on safe investments over short periods of time. But over the long run, money is, as we economists like to say, neutral. This means that no matter what the inflation rate is and no matter what the FOMC does, the real return on safe short-term investments averages about 1-2 percent over the long run.In light of what is going on in the U.S. economy, I think that is the most astute thing that Kocherlakota has ever said in public as President of the Minneapolis Fed. I've elaborated on those themes recently, for example this post, and so has John Cochrane. So to my mind, there's nothing stupid about that statement at all - it's conventional economics, it's nuanced, and it's relevant to the policy debate. Same goes for the other "stupid" speech" Nick links to. You could argue the details, but it's perfectly reasonable economics.
Long-run monetary neutrality is an uncontroversial, simple, but nonetheless profound proposition. In particular, it implies that if the FOMC maintains the fed funds rate at its current level of 0-25 basis points for too long, both anticipated and actual inflation have to become negative. Why? It’s simple arithmetic. Let’s say that the real rate of return on safe investments is 1 percent and we need to add an amount of anticipated inflation that will result in a fed funds rate of 0.25 percent. The only way to get that is to add a negative number—in this case, –0.75 percent.
To sum up, over the long run, a low fed funds rate must lead to consistent—but low—levels of deflation. The good news is that it is certainly possible to eliminate this eventuality through smart policy choices. Right now, the real safe return on short-term investments is negative because of various headwinds in the real economy. Again, using our simple arithmetic, this negative real return combined with the near-zero fed funds rate means that inflation must be positive. Eventually, the real economy will improve sufficiently that the real return to safe short-term investments will normalize at its more typical positive level. The FOMC has to be ready to increase its target rate soon thereafter.
What Nick did in his blog post is actually shameful. It's as if he heard that Pat Kehoe was run over by a bus, and concludes that Pat was crossing the street without looking. Nick actually has no idea whether the busdriver was drunk, what was happening on the bus at the time, the condition of the road, how the accident happened, etc. But, he's willing to state in public that Pat Kehoe must have been giving stupid advice. How does he think he can get away with this? That's easy. People will read it, and there are other bloggers out there who will approvingly link to it.
So, that was an outrageous case. Now for the comic relief, which is Kimball and Smith. Some people paint with a broad brush. This is more like when you buy a couple of cans of latex, throw them at the canvas, and go home. From Miles and Noah, I now know that macroeconomics has a soul. And Miles and Noah know how to save the soul from eternal damnation. All we have to do is get rid of those pesky, mathy, "freshwaters" who hate the government, etc., etc. Indeed we are in the process of getting rid of them, as there are "tectonic" shifts in policy circles and in the profession. So don't worry, the macreconomic soul will live in heaven forever after.
If you want to know where Matt Yglesias gets his information, I don't think you have to look much further than Kimball and Smith, and Krugman's blog. Miles and Noah start with the same factual error as Nick Rowe (see how errors propagate in the blogosphere?), i.e. Ellen McGrattan was fired. In putting together their case they want to argue that Pat Kehoe is the member of a tribe:
Patrick Kehoe, one of the economists dismissed from the Fed, is a key figure in a school of economics called “Freshwater Macroeconomics”So, what is this Freshwater Macroeconomics? Here's how Miles and Noah define it. A freshwater economist
[believes] that people are very, very smart and sensible in their economic decisions...If the Fed prints money to try to stimulate demand, they say, it will only succeed in creating inflation rather than reviving the economy. And given this view of rationality, Freshwater macroeconomics often pushes the idea that the government should keep its hands off the economy in other policy domains as well.First, the key leaders of the "freshwater revolution" of the 1970s, for example Lucas and Prescott, would never use a word like "believe" to describe what they do. They like to use words like "economic science." If I were to put words in their mouths, I would say that they think that rational expectations is a useful modeling strategy for an economic scientist thinking about dynamic processes. Second, the use of rational expectations models does not differentiate work on sticky prices and wages (what I think Miles and Noah mean by "saltwater") from other work in macroeconomics. If hyper-rationality is a sin, then Mike Woodford is going straight to hell.
The assertion that Miles and Noah make is that Pat Kehoe is a "freshwater" - apparently he thinks that money is neutral, and that government intervention is a waste of time. Let's sift through Pat's work to see if there is any semblance of truth in that. Here is Pat's CV, which, as every academic knows, is the summary of his life's work. First, that' a distinguished record that any academic - anywhere in the world - would be proud of. Pat is a chaired professor at the University of Minnesota, and in the past he has been a chaired professor at Princeton, and has held appointments at the Universities of Pennsylvania and Chicago. Those are some of the elite economics research institutions in the world. In the REPEC rankings, Pat is #105, which is serious business. That's basically top 1% in the world. So, clearly Pat Kehoe was not fired because his research isn't up to snuff as, by any objective measures, the Minneapolis Fed should have been thankful to have him.
What does Pat work on? Here's a paper on financial crises and herd behavior. That certainly doesn't represent a view of the world which says that everything turns out for the best - and it was published in 2004. Here's another paper on monetary policy. That's done in a sticky price framework, where money is certainly not neutral, and policy matters. A third paper is one that I have seen other people mention as evidence that Pat somehow has a biased view of New Keynesian economics. As far as I can tell, this is good science. Pat (and his coauthor Ellen McGrattan) seem to have no special quarrels with New Keynesian theory. Their problem is with the idea that state-of-the-art New Keynesian models can be used directly for policy evaluation. The key problem seems to be that - when viewed through the lens of a New Keynesian model - the data may not necessarily tell us the difference between a "good shock" and a "bad shock," and may therefore fail to give us any information about the correct policy action to take. I would think any serious New Keynesian would want to know about this. The paper is constructive - it tells us what some of the failings of the theory at hand are, and suggests where the research program should go.
So, according to the definition that Miles and Noah give us, Pat is saltwater, not freshwater.
So what direction is the Minneapolis Fed going in? Maybe we can tell by looking at the remaining people there. Well, the new research director is a Chicago PhD with an undergrad Physics degree from Swarthmore, and his most recent work is on development, communications, and demography. Hardly a New Keynesian. What about Kocherlakota's inner policy circle? Of those, Malin has some background in empirical work on price-setting (work with Bils and Klenow for example), but otherwise, no New Keynesians in sight. Further, if you look through the lists of economists and consultants, you won't find a big New Keynesian contingent.
Conclusion: With Pat Kehoe and Ellen McGrattan not at the Minneapolis Fed, the institution is now much less "salty" than previously. In Pat's case, the Fed has lost one of the top experts in New Keynesian economics in the world.
Miles and Noah go on to argue that what they see going on at the Minneapolis Fed is somehow symptomatic of "tectonic shifts" going on elsewhere. As part of the evidence, they argue that Jeff Lacker also "changed his mind," the supporting evidence being this article. As far as I can tell, there has been no dramatic change in how Jeff Lacker thinks about the world - in the article he's only acting surprised that inflation is so low.
So, the case that Miles and Noah want to make sort of falls apart, don't you think? They're basically mischaracterizing what is going on in the profession, and misrepresenting economic science and developments in policy circles. Noah's young, and we can excuse his naivete, but Miles should know better.
Finally, Paul Krugman weighed in on this as well. Krugman is very skillful at character assassination. He does it in such a subtle way - starts off slowly and then builds up to a crescendo using various circumstantial (and carefully selected) "evidence" along the way. Here's the slow start:
What we can ask is what might have led Narayana Kocherlakota, the bank’s president, to conclude that he wasn’t getting value out of research economists with lots of publications in top journals. Kimball and Smith stress the broad failures of freshwater macro predictions — where’s the inflation from all that money-printing? How could something like the Great Recession even happen in a world of clearing markets and optimizing agents?So, first, Krugman has no idea why Pat was fired. "Wasn't getting value" is just a guess. Then, the suggestion is that, somehow, Pat Kehoe is linked to some "freshwater predictions" about runaway inflation, or views about economically efficient fluctuations. Krugman is just making that up. He apparently has no idea what Pat works on, takes Kimball and Smith at their word (and we already know that those guys are barking up the wrong tree), and goes one step further.
One might also want to look at some specifics. There was Kocherlakota’s speech in 2010 in which he argued that low interest rates cause deflation — presumably with some input from the research economists; this was a big embarrassment, he probably noticed, and it may have fed his doubts about whether his economists had anything useful to offer.This is the Nick Rowe argument, which I've already dismissed. This would have been "embarrassing" for Narayana only if he took DeLong, Rowe, and Krugman seriously, as they were the guys who ridiculed his speech.
Chari, Christiano, and Kehoe basically sneering at the notion that the financial crisis would sharply raise borrowing costs or have major negative effects on the real economy.So here he throws in a pejorative - "sneering" - to suggest that these are nasty guys. He's also suggesting that Chari, Christiano, and Kehoe are seriously deluded. He's saying: "Here's a piece of work that is bad, which must mean that the rest of what these people do is tripe as well."
The problem here is that Krugman's lack of knowledge about what's going on in the economics profession is leading him astray. He wants to bring Pat Kehoe and his coauthors into disrepute. But he doesn't understand that some of those guys are actually on his side. He imagines himself in a war, and he's shooting at the wrong guys. Pat Kehoe, Krugman's former Princeton colleague, is actually an important contributor to New Keynesian economics, and Christiano is a big-time New Keynesian these days.
Here's Krugman's finish:
Now, as I’ve tried to say on a number of occasions, mistakes happen. If you, as an economist, try to weigh in on events as they happen, you will get things wrong, and sometimes you may get them wrong in a big way. The crucial question is what you do next. Do you engage in self-analysis, trying to figure out what in your framework led you astray? Or do you double down on your preconceptions, refusing to admit that you may have gone up the wrong path (and, if you’re in an institutional position, try to shut out people with differing views)?Here, you see Krugman's rhetorical gifts on display. Note that he never actually levels the accusation directly against the people involved. But it's abundantly clear what he's saying: "These people were fired because they didn't add value to a policy-making institution. And they didn't add value because they are bad scientists. They said stuff that was wrong, and they persist in their bad science while flagrantly denying the evidence."
One thing is for sure: people who take the second route don’t add value to a policy-making institution.
So, he said all that without knowing why Pat Kehoe was fired, apparently without gaining any familiarity with what Pat Kehoe actually works on, and without actually providing any hard evidence about where Pat actually went wrong. Is that responsible journalism? Of course not.
So, what does this tell you? Over a long period of time, conventional print journalists were brought to task and forced to take their jobs seriously. Conventional reporters talk to the people involved, quote sources, and provide corroborating evidence. Bloggers do nothing of the kind. Indeed, the guy with the blog which is read by more people in the English-speaking world than any other is a particularly bad example. Much of the time, he's just making it up.
Addendum: I meant to include the following. The blogger who came through this episode behaving like the honest gentleman he is was Mark Thoma.