I had pretty much forgotten about the Federal Reserve, what with the presidential election, the fiscal cliff, the brouhaha over Benghazi, and the bevy of buxom gals mixing with Army brass at Centcom.
Even without the distractions, it’s hard to muster much interest when the central bank has pledged to hold its benchmark interest rate near zero for years and its bond-buying program has become part of the daily routine.
I had just about concluded that no, I wasn’t seeing double, and that yes, Jill Kelley has a twin — Kelley is the woman who received threatening emails from Paula Broadwell, Gen. David Petraeus’ biographer and onetime paramour — when my reverie was interrupted by a red headline crossing the Bloomberg terminal: YELLEN SAYS FED SHOULD LINK LOW-RATE OUTLOOK TO ECONOMIC GOALS.
Fed Vice Chairman Janet Yellen, who has no relationship to Petraeus, Broadwell or Kelley but is a likely candidate to succeed Ben Bernanke, signed on to what had been a minority view at the Fed calling for an interest-rate increase to be contingent on reaching a goal rather than a date. Chicago Fed President Charles Evans has long argued for tying the Fed’s forever-at-zero interest-rate pledge to a specific level of unemployment (7 percent). He clearly convinced the Minneapolis Fed’s Narayana Kocherlakota, who two months ago offered both an unemployment (5.5 percent) and an inflation-rate threshold (2.25 percent) as prerequisites for “liftoff” from this low- interest-rate environment.
Yellen, in a speech last week in Berkeley, Calif., said she agreed with the idea of replacing the current calendar-date guidance — a funds rate of 0 to 0.25 percent at least through mid-2015 — with economic conditions that would need to be satisfied before raising rates.
She’s not alone. The minutes of the Fed’s Oct. 23-24 meeting, made public on Nov. 14, indicate that policy makers “generally favored the use of economic variables, in place of or in conjunction with a calendar date,” to communicate their thinking about the initial increase in the funds rate. Before implementing any change, the committee needs to iron out some “practical issues,” such as whether to supplement unemployment and inflation thresholds with other indicators of economic and financial conditions, according to the minutes.
Uh-huh. Petraeus, a retired four-star general, could explain to Bernanke the tactical issues involved in establishing multiple lines in the sand.
For example, what if both inflation and unemployment exceed the Fed’s thresholds, as they did in the 1970s? Presumably the Fed now understands the consequences of trying to stimulate demand in the face of a supply shock.
Or what if the Fed is wrong and today’s unemployment is structural, the result of a skills mismatch, and not cyclical? That would mean full employment in the United States is higher than 5 to 6 percent.
Just imagine what introducing thresholds for a host of other metrics would do for the conduct of policy, not to mention transparency.
All this transparency makes me yearn for the days (pre-1994) when a now-extinct species known as “Fed watcher” would pore over daily reserve injections to see what the Fed was up to. Why, it was the equivalent of the FBI’s eavesdropping.
I used to rail about the silliness of such an opaque approach: If the goal of changing policy is to change behavior, by all rights the Fed should hire a brass band to announce its moves, not couch them in secrecy.
Fast-forward two decades. The Fed now announces policy changes, lays out the expected future path for the overnight rate, and provides scatter diagrams of individual policy makers’ predictions about when that rate will rise. (No names. That would be a transparency bridge too far.)
And if the Fed is desperate for some new kind of target, there’s no need to reinvent the wheel. Nominal gross domestic product is a good proxy for the Fed’s dual mandate, encompassing as it does both real output — the source of job growth — and inflation.
What do we have to show for all this newfound transparency? Bupkes. The federal funds rate has been at 0 to 0.25 percent for four full years. The Fed promises three more. All the coddling and coaxing in the world hasn’t convinced the business community, focused as it is on fiscal policy, that this is a good time to invest and hire.
The theory of rational expectations suggests transparency should make a difference. Because people are rational, they make decisions on the basis of past experience and expectations about the future, presumably including the level of the overnight rate in 2015.
Not everyone is attuned to the intricacies of monetary policy. Most people don’t know or care whether the Fed uses dates or thresholds to convey its intentions. They may be rational, but the cost of information relative to the perceived benefit is too great.
Socialite Jill Kelley isn’t sitting around her Tampa, Fla., manse waiting for the Fed’s 2:15 p.m. post-meeting announcement. Nor is she apt to read it online. My best guess is that her spending, including a lavish entertainment budget, is less a function of expectations about the Fed than of lawsuits related to credit-card debts and foreclosures.
This “public” isn’t relying on the Fed’s forward guidance. Sure, the real housewives of Tampa may glance at the quarterly 401(k) statement, feel wealthier when the asset value goes up and spend a bit more. But I seriously doubt that expectations about Fed policy are anywhere on Paula Broadwell’s radar.