O.K., I don’t mean that Mr. Perry, the governor of Texas, is personally standing in the way of effective monetary policy. Not yet, anyway. Instead, I’m using Mr. Perry — who has famously threatened Mr. Bernanke with dire personal consequences if he pursues expansionary monetary policy before the 2012 election — as a symbol of the political intimidation that is killing our last remaining hope for economic recovery.So, since Perry is only "symbolic," what exactly is the substantive nature of the political pressure on the Fed? Krugman mentions two things: (i) the dissent by three members of the FOMC on the last policy decision; (ii) some public statements by Paul Ryan about dollar debasement and such. Now, (i) Dissent within the FOMC is certainly not political; that has to do with the internal workings of the Fed. I don't think you can make a case that Plosser, Kocherlakota, or Fisher were motivated by political pressure (see this, this, and this). (ii) There is nothing much new about members of the House criticizing the Fed. Ron Paul has for a long time been arguing that we should abolish the Fed, which seems to make even members of his own party want to run the other way. I don't see any evidence that monetary cranks have altered Fed behavior.
So much for the politics. The heart of Krugman's post actually has to do with how Bernanke's behavior as Fed chairman matches up to what Bernanke was proposing in 2000, as a recipe for Japan's problems at the time.
Mr. Bernanke suggested that the Bank of Japan could get Japan’s economy moving with a variety of unconventional policies. These could include: purchases of long-term government debt (to push interest rates, and hence private borrowing costs, down); an announcement that short-term interest rates would stay near zero for an extended period, to further reduce long-term rates; an announcement that the bank was seeking moderate inflation, “setting a target in the 3-4% range for inflation, to be maintained for a number of years,” which would encourage borrowing and discourage people from hoarding cash; and “an attempt to achieve substantial depreciation of the yen,” that is, to reduce the yen’s value in terms of other currencies.Then, Krugman states:
So why isn’t the Fed pursuing the agenda its own chairman once recommended for Japan?Let's just deal with the accuracy of that statement for now. Of course, if you have been watching what the Fed has been doing since late 2008, you know that the Fed has been following Bernanke's 2000 Japan agenda remarkably closely. The Fed has tripled the size of its balance sheet, purchasing large quantities of long-term government debt, as well as mortgage-backed securities and agency securities. The Fed's policy rate (the interest rate on reserves) has been set at 0.25% since late 2008, and the FOMC has just announced that, barring some extreme and unexpected circumstances, that will continue for almost two years. How much more extended can you get? The only piece of policy that differs from the Japanese agenda is the 3-4% inflation target. Bernanke and other Fed officials are on record as stating that their inflation target is 2%. While one could find sound reasons why this target could be higher, there is nothing the Fed could be doing that it has not already done that could actually increase the inflation rate in the United States.
Krugman argues that the Fed is paralyzed and politically intimidated. Neither is the case. The question we want to ask under the current circumstances is the following. Are there actions the Fed could be taking that would make us better off? Krugman would like you to believe that there are things the Fed could be doing, Bernanke knows what they are, but wrongheaded politicians and some dissenters on the FOMC are preventing him from executing the agenda. I don't think that's right. Under the current circumstances, the Fed is powerless, and the dissenters are right.
I wonder what would you do in your blog in the absence of Krugman.ReplyDelete
Did Bernanke recommend the Japanese pay interest on reserves? A rate particularly high relative to the short term Treasury rate? It's a contractionary policy that you wouldn't expect from someone trying to substantially depreciate the currency.ReplyDelete
Do you think the Fed is powerless to create inflation of 3-4%, or have they merely decided they want rates a little under 2%?
@Anonymous 8:23AM, take a look at Williamson's vita and you will see.ReplyDelete
Steve, Krugman likes to spew bullshit on a daily basis. It is his right to do so. But many people, myself included, really enjoy having you around to cut through his bullshit. Thank you, and keep up the good work.
" The only piece of policy that differs from the Japanese agenda is the 3-4% inflation target. Bernanke and other Fed officials are on record as stating that their inflation target is 2%. While one could find sound reasons why this target could be higher, there is nothing the Fed could be doing that it has not already done that could actually increase the inflation rate in the United States."ReplyDelete
What about making the interest rate on reserves negative as Scott Sumner suggested? You don't think that would increase inflation? What about saying short term rates will stay low for five years?
This is interesting actually. If not for Krugman, I don't think I would be doing this blog. I was shocked at what he was writing and thought I might do my best to try to add some sense to that debate, if only to stick up for the fine macroeconomists he was trying to beat up.
"What about making the interest rate on reserves negative as Scott Sumner suggested?"
Very good. That would actually do something. Unfortunately, Congress did not write the law to allow it.
"What about saying short term rates will stay low for five years?"
That's a bad idea, which is where the dissent came from on the last FOMC decision. As long as the Fed's state-contingent policy decision rule is well-understood, and the Fed is committed to that, that is all you need. Committing to a specific policy rate for such a long period of time is the wrong kind of commitment.
OK. What about committing to a price-level path target, and committing to keep on buying (say) the S$P500 index in very large/unlimited quantities, contingent on (i.e until such time as) some sort of TIPS futures market (say) showed you were expected (by the market) to hit that target in the (specified) near future?ReplyDelete
First, stock purchases would be just as irrelevant as purchasing long Treasuries. But, suppose that this actually matters. Then it's a really bad idea. In that case, Fed asset purchases clearly favor some asset-holders relative to others. Everyone then wants to make a case that the Fed should buy the assets closest to their heart. If United Airlines gets in trouble, I'm sure they would want the Fed to purchase their debt, for example. An intervention like that sends the Fed down the slippery slope to loss of independence.
"As long as the Fed's state-contingent policy decision rule is well-understood, and the Fed is committed to that, that is all you need."ReplyDelete
Meaning that you, like Mike Woodford, would like more detail on the state-contingencies? That would seem to be a conditional commitment along the lines used by the BoC (if I am interpreting you correctly).