“The Only Fed Rule Is That There Are No Fed Rules”

That is the title of my latest Bloomberg column, here is one excerpt:

Now enter the Fed, which I think of as a tool of Congress and the president. It gives Congress a means of promoting economic growth and stability (one hopes), as well as a path for deflecting the blame if tough decisions must be made. Congress insists that the Fed is “independent,” precisely for this reason. But if voters hated what the Fed was doing, Congress could rather rapidly hold hearings and exert a good deal of influence. Over time there is a delicate balancing act, where the Fed is reluctant to show it is kowtowing to Congress, so it very subtlety monitors its popularity so it doesn’t have to explicitly do so.

If we imposed a monetary rule on the Fed, even a theoretically optimal rule, it would stop the Fed from playing this political game. Many monetary rules call for higher rates of price inflation if the economy starts to enter a downturn. That’s often the right economic prescription, but voters hate high inflation. The Fed would probably lose its political capital if it had to follow through on the rule, and monetary policy would end up politicized for a long time.

Central bank quasi-independence is a quite a fragile institution, and it is maintained only by allowing central banks to juggle lots of balls at once. If you make a rule too tough, even a good rule, sometimes what you get is a rule that snaps and breaks.

Do read the whole thing.


An equivalent but jaded argument =

1) Every crisis requires a scapegoat

2) If the Fed's job appeared easy, senators would scream "You had one job!"

3) Ergo, there can never be a rule

However both lines of argument avoid the core question of optimal
currency area sizing.

Imagine that people only accepted currency made by the local mint, that each
regional Fed controlled the local mint, and that travelers would have to
exchange their Philadelphia dollars for SF dollars.

Would that be a better world for the Fed?

Would there even be a national Fed in that scenario? You effectively have 12 currencies, each with its own Fed. I can't see how 12 currencies improves anything.

Having a global monetary policy for all the USD-based economies has differential impacts because the purchasing power of a dollar isn't uniform across those economies. A more local currency might reduce those differentials.

The core question remains: is the map of optimal currency areas different than the political map? If so, how much? Can we get there?

The Bureau of Economic Analysis offered a summary of a study a while back which suggested the sectoral mix in the South and the Plains states made for different response during recessions, which suggested that two currencies might be optimal for the United States. I think there are similar studies which suggest the same for western China v. the rest of China.

Doesn't this just lead you back to the question, "Why do we need a central bank?" If there are no rules, then what game are we playing?

On top of that, since money is largely neutral, there's not much point to having a central bank or even rules. At best, a central bank allows member banks easy money to bail them out during hard times like in 2008 (Fed assumes junk paper to bail out Freddie, Fannie, AIG, etc, but not hapless Lehman Brothers). From society's point of view, there's no real benefit.

Read up on what happened to New Mexico's banking system in the early -> mid 1930's.

Or what could have happened to the commercial paper market in September, '08.

"From society’s point of view, there’s no real benefit"

You're a Master of Glibness.

Everybody Loves Raymond, but he is stuck in a little cul de sac on the subject of monetary policy, like a Sphex wasp entering its home.

Three questions:

How much of the recent $4-plus trillion in QE was mortgage-related securities?

Assuming the Fed "paid" par, what was the fair market value?

How much mortgage-related QE purchases were in default (though "bought" at par) mortgage paper?

Most of the QE money stayed "holed up" in the Fed as excess reserves.

I heard the following nonsense on a business TV channel: "QE was meant to 'stimulate.'" In fact, it was conducted to keep long-term rates low; and, unspoken and unanalyzed, to remove from bank balance sheets depreciated and/or defaulted assets.

In fact, The 1913 Fed was established to mirror 19th century European CB's. That is to act as lender of last resort in times of liquidity crises when panicked "depositors" ran out of otherwise safe and sound banks. In the original, there would be no discounting of defaulted paper. That changed in FDR's first hundred days. Was it resurrected beginning in 2008?

The Fed purchased mortgage-backed securities on the secondary market, so it was paying what they were selling for.

The TARP program financed the deficits of the GSEs for several years, so the issues of Fannie Mae and Freddie Mac did not go into default.

Money supply should match the size of the economy and its current demand for money.

That matching game is supposed to be the primary game -- though as TC points out, other games are played as well, and the sum of those iterated games means that the dominant strategy has humans perennially futzing with levers.

While also trying to project enough gravitas that when everything goes South they can convince people to follow their lead -- instead of having FDR go hog-wild on them.

Paper money. No matter how good the artwork, the new fangled holograms, the punters understand that all the government has to do is print the stuff.

And so a great hierarchy with high office is necessary to convince common citizens that someone is being responsible.

I think the sweet zone for "responsibility" is probably fairly wide, but it is possible to drive the car off the cliff. Countries do that, rarely. Get someone in there who is unwilling or unable to look serious while doing boring things, and hell might break loose.

Give me a boring Fed, please.

@Yancey: “Why do we need a central bank?” If there are no rules, then what game are we playing?



Of course, the Fed is merely a facade for illicit centralized political power application. Tyler knows that but postures puzzlement at the lack of "rules" by which this noble democratic institution "should" operate. After 114 years, one would expect professional economists who strongly support the Federal Reserve concept ... would be able to very clearly understand it and explain it to us common folk. But disinformation is the key to the Fed "game" actually in play upon us commons.

Of course, the Fed is merely a facade for illicit centralized political power application.

The subject at hand reliably brings the crazy out of the woodwork.

... a really clever retort & petty personal attack . One who disagrees with your viewpoint must obviously be mentally defective (crazy) (?)

The UK is currently running at 3% inflation amd I don't see a huge campaign against the BOE in politics there. So I don't think a rule based system necessarily leads to a loss of political capital. What does of course lead to lost political capit is massive bailouts if monetary easing is not done because of false scares of inflation.

@ChrisA - there's lots of priors in your last sentence, you might want to unpack it for us skeptics. You are implying massive bailouts due to lack of monetary easing? Maybe in the UK, but in the USA the Fed Reserve took on something like $4T USD in extra paper, which by most people's reckoning (except maybe Scott Sumner's) is monetary easing.

The fear of inflation in early 2008, which is well document in Fed transcripts, prevented any easing when the cracks were already showing. The Fed was too late with their easing before everything was blatantly clear and the results were the bailouts when disaster struck. At least that is how the story goes.


"Now enter the Fed, which I think of as a tool": you could be right.

"it very subtlety monitors its popularity": sp -1.

I read with amusement:
"One year’s Congress may try to bind the hands of the next, but those attempts usually fail."
The elephant in the room with that assertion is entitlements. Seriously, and without verbal gymnastics: how is mandatory spending on Social Security, Medicare, etc. *NOT* a budget-devouring act of binding?

If the Fed had to follow a rule, Congress might actually have to do something. But then our Reps would see their re-election rates fall below 90 percent and we can't have that.

The Fed more-or-less followed the Taylor Rule from 1985 to 2002. Was Congress peculiarly productive during that run of years?

Let's see. Tax reform, welfare reform, ADA, deregulation, the Internet, base closures, NCLB. These are all off the top of my head. So, yeah.

Cowen (the penultimate paragraph): "My favorite candidate for a monetary policy rule is nominal GDP targeting, whereby the central bank tries to keep the flow of nominal purchasing power on a stable growth path. Under this rule, if GDP growth falls, the Fed should boost price inflation to maintain aggregate demand." Wow. His friend Scott Sumner must be pleased. In any case, Cowen's little essay about the Fed's "independence" is far more insightful than this one: https://www.nytimes.com/2017/10/19/upshot/the-fed-claims-to-be-independent-thats-mostly-a-myth.html

I hesitated bringing attention to Cowen's endorsement for fear that a certain regular commenter at MR would unload on Cowen the way he has unloaded on Sumner at his blog. NGDP targeting is Sumner's (and in a slightly different form, Roger Farmer's) obsession not Cowen's, so I urge the commenter to give it a rest here. Other well-known economists has spoken and written approvingly of NGDP targeting, including Larry Summers.

John Taylor has criticized NGDP targeting.

Sumner's usual stance is that person's not named 'Scott Sumner' don't know what they're talking about and (if they're policy makers) are incompetent. His other is to pepper with insults anyone he cannot identify as a professional peer (whether he's talking financial economics or not). The 1,000th iteration of 'you really are an idiot' gets tiresome.

"The 1,000th iteration of ‘you really are an idiot’ gets tiresome."

Least self-aware sentence ever posted here. The hypocrisy is epic in scope.

Sumner, earlier this week, stated that John Taylor might be a good choice for Fed chair "despite [Sumner's] reservations about the Taylor rule."

One can read Sumner's blog for more information about NGDP targeting. Sumner has suggested NGDP targeting coupled with a futures market (for NGDP) that would commit the Fed to buy or sell Treasurys if the futures market is below or above the target. Farmer would go a step further and add equities to the mix (i.e., the Fed's commitment to buy or sell would include the commitment to buy or sell equities (i.e., stock). This is all above my pay grade, so I won't add to this subject except to compliment that regular MR commenter on his insightful comments at Sumner's blog about how the mere existence of the futures market would avert the need for the Fed to ever buy and sell.

So that is what America has come to: no rules, rampant lawlessness.


Fundamentally, one cannot simultaneously defend the Federal Reserve system and the free market.
They are contradictory concepts. But most US economists blithely sit on that fence.

The Fed negates the free market by artificially manipulating the price and supply of money – the lifeblood of the economy. In a free market, interest rates, like the price of any other consumer good, are decentralized and set by the market. The only legitimate, Constitutional role of government in monetary policy is to protect the integrity of the monetary unit and defend against counterfeiters.
Instead, Congress has abdicated this responsibility to a cabal of elite, quasi-governmental banks who, instead of stabilizing the economy, have destabilized it. It took less than two decades for the Federal Reserve to bring on the Great Depression of the 1930’s. It has also inflated away the value of our currency by over 96 percent since its inception. It has invisibly stolen from the poor and given to the rich through this controlled inflation, and now openly stolen through recent bank bailouts. It has predictably exacerbated the very problems it was supposedly meant to solve.

I'm not convinced that voters hate higher inflation therefore the Fed is aiming for less than optimal inflation because they fear 3% inflation would result in a voter backlash on Congress which would then result in a backlash on the Fed....even though Fed chair's are 2nd only to judges in immunity from Presidential and Congressional checks.

Also not quite historically accurate. I would say even in 1980 it wasn't clear that the voters really wanted to bite the bullet and slash inflation.... I think more likely voters approach inflation the way a guy who hates the dentist approaches a bad tooth. If things are bad enough he might bite the bullet and get it pulled...but then he is just as likely to try to find a way to live with it a bit longer.

I think the bias against inflation is institutional. The Fed, by being immune from political movements more or less, shys towards low inflation because that is seen as their primary job. Robust economic growth, on the other hand, competes for credit with fiscal policy, regulatory policy, national leadership (although that's probably done now that the US lacks anything like a leader in the White House) etc.

I think the bias is also intellectual. For a very long time economics has assumed the biggest problem with political democracies is holding down inflation. I recall one econ prof. who loved the idea of the gold standard because he took it as an obvious given that all democratic economies would sooner or later lose discipline and fall into hyperinflation. The idea that with high debt, high spending and a massive Depression we would end up with effectively zero inflation after both stimulus and massive Fed easing was quite frankly more off the radar for those who think the 1970's were the primary era for training grownups is just too much of an intellectual paradigm shift for them to handle. Think of Einstein happily asserting time is relative but never quite getting his mind around quantum uncertainty.

I wounder how Tyler's thesis will hold after we see a generation of economists who came of age in the 90's start running central banks (it was the 90's I recall unemployment dropping ever so slightly below it's 'natural rate' of 6% and people fretting that the Fed was going to let it keep dropping rather than immediately increasing rates to hold off the inflation surge, which never came).

The voters are anti-inflation because the gains from inflation (asset prices, corporate profits) benefit a fairly small slice of society. The costs affect a large slice (lower real wages). There is no evidence over the last few decades that an increase in general inflation will find its way into wages.

Of course there is evidence. Nominal pay increases in the 1970s were a lot higher than they have been in the more recent era. Why do you suppose that is?

I would assert that most people are focused on their real wages.

Perhaps, but that's not responsive to my point that inflation and nominal wages are highly correlated.

Real wages fell a lot between 1973 and 1982, and have risen modestly this century. But the decline in the 1970s was masked by inflation, while nominal growth this century has been meager. Seems to me people are complaining about lack of wage growth a lot more now than they did then. Money illusion?

Real wages fell a lot between 1973 and 1982,

They didn't.

Yes they did Art. Money illusion claims another victim.

Social Security knows everyone's wages. Every year, they calculate a "National Average Wage". In 1972, this was $7,133.80.

By 1982, it had more than doubled (an increase of 103%), to $14,531.94.

Unfortunately, the CPI went from 41.9 in July of 1972 to 97.5, an increase of 133%.

Easily the worst 10-year period since WWII. Nothing in the 21st century comes close

"Real wages fell a lot between 1973 and 1982, and have risen modestly this century. But the decline in the 1970s was masked by inflation, while nominal growth this century has been meager. Seems to me people are complaining about lack of wage growth a lot more now than they did then. Money illusion?"

Real (hourly) wages haven't changed much since 1964 according to this chart from the BLS.


Nominal employee compensation during 1973 amounted to $815 bn. Nominal employee compensation in 1982 amount to $1,894 bn. The working population in 1973 averaged 85.2 million and that in 1982 averaged 97.3 million. Nominal compensation per worker was thus $9,565 per annum in 1973 and $19,465 per annum in 1982. The GDP deflator increased by 95.5% between these two points in time and the index for personal consumption expenditures by 99.1%. Using 1973 currency as a base year, employee compensation per worker in 1982 was $9,775 per annum or $9,957 per annum depending on which index you use. A 2-4% increase is not generally what people mean when they say 'fell a lot'.

Please recall that the 4th quarter of 1973 was a business cycle peak and the 3d quarter of 1982 was a business cycle trough.

@ Brian D.

"Social Security knows everyone’s wages. Every year, they calculate a “National Average Wage”. In 1972, this was $7,133.80.

By 1982, it had more than doubled (an increase of 103%), to $14,531.94."

Social Security might know everyone's wages; however, not all "wages" (in the real economic sense) are subject to FICA and Medicare. I strongly suspect that those numbers exclude "wages" that are exempt from FICA and Medicare.

For example, employer-provided health insurance is exempt. While this was codified in 1954, I think that during the period mentioned above, it become an ever-larger fringe benefit. It is one of the largest "tax expenditures". Ditto for cafeteria plans which were introduced in 1972, right in the middle of your period of measurement. There are a few other examples which could move the needle on the measurement of "real wages".


Do you have a link to the data you are using?

OK, "fell a lot" is probably an overconfident statement, given the scope for disagreement over measuring the value of a dollar at different points in time. So, the only thing we can really talk about is how one 10 year period compares to another. I'm pretty sure if you repeat this exercise with your data, the 1973-1982 period will jump out as a trough. Or, if you send me your links, I'll do it.


Yeah, whenever anyone talks about stagnant wages, I always immediately think of skyrocketing health care costs and total compensation.

But I don't think that's a huge part of the 1973-1982 story. Health care costs were miniscule in 1973, and my gut says the share of total compensation increases eaten up by health care cost increases has been much more significant in the past 30 years than it was in 1973-1982.

In other words, 1973-1982 was easily the roughest 10-year period for wage growth or compensation growth since WWII however you want to look at it, but we have a hard time seeing this because of inflation/ money illusion.

I would assert that most people are focused on their real wages.

If they are then why would inflation be a problem for them? You can't argue on one hand inflation 'masks' lackluster wage growth and on the other hand people are focused like well honed econometric machines on their 'real wages' at all times.

If they are focused on their real wages then they know inflation of 10% means anything less than a 10% raise every year is a pay cut and if they think they deserve a raise they need more than 10%.

Higher rates of price inflation if the economy starts to enter a downturn are often the right economic prescription? My jaw dropped when I read that since I've seen you referred to as a libertarian. Keynes: "By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method, they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some. The sight of this arbitrary rearrangement of riches strikes not only at security, but at confidence in the equity of the existing distribution of wealth. Those to whom the system brings windfalls . . . become 'profiteers', who are the object of the hatred of the bourgeoisie, whom the inflationism has impoverished not less than the proletariat. As the inflation proceeds . . . all permanent relations between debtors and creditors, which form the ultimate foundation of capitalism, become so utterly disordered as to be almost meaningless."

Inflation is a wealth tax. Modest inflation is a good thing for most people. Deflation is a good thing for the miser that stuffs money in his mattress.

"Deflation is a good thing for the miser that stuffs money in his mattress."

This is a Keynesian caricature, like old Scrooge McDuck swimming in pools of gold coins.

Doesn't this also increase the purchasing power of money in circulation? If prices are stable, a penny saved really is a penny earned, and even us schleps who don't understand stock prices or derivatives can do it.

No. Stuffing money in a mattress doesn't help anyone and shouldn't be rewarded. Under deflation, it is.

It also does not help the general public to bid up prices on scarce resources unless there are positive returns on the investment. Thus, if spending decisions are being made only because of fear of a depreciating currency then the it is bad for society. Better to have a appreciating currency where people stuff the money in mattress UNLESS they actually have a investment they think will produce good returns(investments that boost productivity as opposed to granite kitchen counters).

A constantly depreciating currency is not good for society it encourage spending on frivolous crap, because 'currency is devaluing anyway'.

Inflation does not make sense as a wealth tax either. Almost no one keeps their wealth in the form of large piles of cash over the long run. Wealth is almost always stored in the form of assets of one sort or another. Almost by definition the prices of assets rise with inflation.

The most you can say is unexpected inflation might be a wealth tax but if one economy that has 2% inflation for 50 years straight should not be different from another economy that has 5% inflation for 50 years. Both economies should not present any special problem to those accumulating wealth prudently.

Another conspiracy theory we have on our hand. Don't we? A well phrased one, but still a conspiracy theory.

I suspect that well over 50% of all voters in Federal elections have no clue what the Federal Reserve does, who the members are or who the chair is. Other than those on the House & Senate Banking committees the same could be said of many in Congress (as long as they are not briefed by their staff).

The notion the Fed is 'kowtowing to Congress' is implausible. What the Fed does which intersects with the concerns of Congress or the general public is to influence the rate of increase in the price level. There is no indication that politicians or the public have been dissatisfied with the Fed's performance in this regard over a period of 35 years. One member of Congress who has taken a vocal interest in the Fed is Ron Paul, whose advocacy on this issue is like his advocacy on any other issue: blatantly silly.

Voters hate high inflation for a reason. In this age of seemingly permanent downward pressure on wages, any increase in inflation is an immediate drop in real wages. And an immediate increase in asset values which enriches the top 1%.

Inflation helps debtors and hurts creditors. Rich people are not debtors, they are creditors.

I hear that a lot, but how does it play out in real life? If inflation spikes, do I pay off my mortgage with my inflated paycheck? Do my groceries, insurance and oil changes stay the same price while I'm gleefully retiring my debt? And won't new credit just be issued at higher interest? I think the only economic actors that can play this to their advantage are large, aggregated, and oligopolistic organizations like governments and corporations.

Don't overcomplicate it.

Anyone who took out a standard 30 year fixed-rate mortgage in, say, 1969, received a huge windfall by being able to pay off that mortgage with dollars that turned out to be worth a lot less than anyone reckoned in 1969.

Anyone who took out a standard 30-year fixed rate mortgage in, say, 1989, was clobbered by having to pay off that mortgage with dollars that turned out to be worth a lot more than anyone reckoned in 1989.

Obviously, there are dangers to inflation, but the creditor/debtor thing is straightforward and a game anyone can play.

Except it's not "a game anyone can play," as you just demonstrated. You have to be born at the right time, take on the debt at the right time, and be in the right location at the right time. And there are all sorts of confounding non-monetary factors.

Not 1989, 1979. The dramatic fall in the pace of inflation occurred in 1981 and 1982.

1979 would be better, but I was thinking of my own first mortgage (10.625%) in 1989.

Aging Boomers with normalcy bias.

>Anyone who took out a standard 30-year fixed rate mortgage in, say, 1989.....

.... refinanced their mortgage. Probably more than once.


The fact that mortgages in the US include this option is a distraction. I'm using mortgages as the example because this is the easiest way for most people to think about the issue.

But the background of interest rates and inflation drives the whole creditor/debtor balance. Don't miss the point by focusing on a quirk of US mortgages.

@BD - so you can't really demonstrate how this axiom applies across time, individuals, and sectors and without considering a host of other factors. In other words, it's not an axiom, yet it's taught as such in economics departments worldwide.

Here's how it would work. Let's say your paycheck is $100/week and you put $40 to your mortgage payment and $60 to everything else. Suddenly there's a massive 100% inflation that hits one time. Your check is now $200/week and everything else has gone from $60 to $120. But your mortgage is still $40 so now you have left $200 - $40 mortgage - $120 everything else = $40.

But here's what is getting missed. When you got that mortgage you had an option for a fixed or adjustable rate. You probably choose fixed because that was 'safe' and locked down your payment even if interest rates rose dramatically. BUT if you had opted for the adjustable rate you would have a lower interest rate. You paid your bank a fee to insure you against rising interest rates essentially. In the 70's and 80's interest rates were high because inflation was also high so you weren't really 'getting one over' on the bank.

The arguments against inflation are arguments that apply against unexpected inflation. Give me an economy that runs inflation at 5% per year for 50 years even and another that runs at 10% per year for 50 years an I would bet it wouldn't make a difference in either economy. In both economies people would accumulate wealth, start businesses, save, spend, retire etc.

any increase in inflation is an immediate drop in real wages.

Real wages declined during recessions during the period running from 1966 to 1982, as you'd expect. Increases in nominal compensation exceeded the rate of price increases the rest of the time.

None of that changes the basic equation: more inflation keeps your real wages stagnant and enriches asset owners (basically the 1%. Why would any "average person" sign up for this?

This also begs the question of how the Fed should set policy when it knows its policy is not likely to be permanent (politics will eventually intervene). It is my belief that by taking volatility out of the business cycle, the Fed has encouraged the private sector to add massive leverage (thus keeping the overall standard deviation of wealth roughly constant). This can work as long as the Fed can permanently apply its volatility-reducing policies...but if this is not the case, the Fed it is creating the conditions for a future surge in volatility due to high leverage throughout the system.

"Under this rule, if GDP growth falls, the Fed should boost price inflation to maintain aggregate demand."

I.e., add money and stir.

You teach your students in Micro that price and demand are elastic. Then they get to your Macro courses and you tell them forget all that, price inflation boosts aggregate demand. What is the basis for this statement?

Economists who would laugh you out of the room over the minimum wage or rent control simultaneously tell you that a central committee of their peers can empirically manage the money supply and swoop in as needed to prop up asset prices (and those, after all, are the prices we are talking about). Like socialism, works in theory. In practice, there are all sorts of perverse incentives.

"Many monetary rules call for higher rates of price inflation if the economy starts to enter a downturn. That’s often the right economic prescription, but voters hate high inflation. The Fed would probably lose its political capital if it had to follow through on the rule, and monetary policy would end up politicized for a long time."

I think it's interesting how everyone sees areas where human inclinations are counterproductive, and everyone decides sometimes that we'll just have to live with these human inclinations but other times we need to overcome these human inclinations, but nobody agrees on which issues need which approach.

We're all praying The Serenity Prayer, but with different ideas about what constitutes wisdom.

On this issue, Tyler throws his hands up against the power of obstinate humans. I call bullshit. The US averaged 3% inflation between 1947 and 1974 (this excludes the post-war inflation and the worst of the 1970s inflation.) This was a 37 year period, and the period that economists of all stripes look back fondly upon as some kind of golden age.

The idea that 3% inflation (or even 2%) is beyond the pale now is weaksauce.

An increase in the inflation target would entail an absolutely massive transfer of wealth from creditors to debtors. It should not be the Fed's role to pick winners and losers and shift wealth around - this should be an act of Congress. And in that sense, yes, the voters matter.

Every bond has an "expected inflation" number built into its price. If actual inflation falls short of this expectation (which it has for several years), that's a windfall to creditors at the expense of debtors. Vice versa if actual inflation exceeds expectations.

Creditors have racked up huge gains over the past three decades as inflation has consistently fallen short of expectations.

Also, CPI fell 4% in the second half of 2008. What would an employee do faced with a mandatory across the board 4% real pay increase? Maybe they would cut 10 million jobs. That's what happened.

* employer

I believe inflation has averaged 1.9% since the Fed began inflation targeting. And it only switched to targeting PCE inflation in 2000. If we use CPI we are probably right on track. Also, i'm told by economists that expectations are what matter (and whats priced in). 10yr inflation expectations (from TIPs) have averaged exactly 2.0% since they started trading in 1998. There has been no actual divergence from the stated policy.

Even if your point were correct, there is a large difference between slightly missing your policy and changing your stated policy. The latter is up to voters/congress.

The Fed has a 2% PCE target, which translates to a CPI target closer to 2.5%. They've been missing on the low side since around 2005.

More obviously, the 30-year Treasury yield peaked at 15.21%(!?!) on 10/26/1981. We don't know what expected inflation was at the time (there was no TIPs market), but actual inflation over the next 30 years averaged 3.0%. This is an astonishing real return for creditors, all due to inflation coming in well below expectations at the time.

Why? By 1982, creditors had been ravaged by high inflation, and the burned child dreadeth the fire.

I'm not saying creditors don't deserve a fair return, and certainly not the bloodbath they suffered during the 1970s inflation, but they have had a helluva ride for 35 years.

And the experience of debtors is the mirror image of the experience of creditors. Debtors have been getting pounded for decades after the windfall they enjoyed in the 1970s.

Maybe debtors should wish for an oil embargo.

A price shock isn't inflation. Inflation is a monetary phenomenon.

"A price shock isn’t inflation. Inflation is a monetary phenomenon."

On one level, people know that, on another level they seem not to. As an example, people constantly refer to the 70's as a time of "high inflation" rather than acknowledging the component, and possibly roots, in the energy price shock.

Monetary inflation is very easy to teach, with a tinker-toy model. You know. Imagine a closed economy with a single currency. Imagine all else being equal (no drought, no hurricanes, no energy shocks), and it is easy to visualize prices rising and falling with tighter and looser money supply.

But that ain't our world. In a global economy, with traded commodities and currencies, the picture is much more complicated. And central bankers play a group game, keeping their currency in "the flock."


I don't believe fine tuning of a developed nation's "inflation" is possible.

Both because of currency flows, but also the huge components of "inflation" that are not related to money supply .. principally energy price gyrations.

So why isn't today's low inflation simply a positive supply shock, which should be ignored? It's not like there's another China out there waiting to urbanize 1b people. Funny how, "supply shocks" are always used to justify easier money, never the opposite. Intellectual fraud.

I am not sure we even have the same point of reference. Here is a long term chart of OECD inflation:


I don't see much choice in that. It's not that those central banks were driving their currencies together, they were riding the same tiger. And so in my view what happens as China becomes more affluent is what happens, not what anyone designed or agreed upon.

Basically I think the central bank's job is to keep inflation (as measured by a price bundle) somewhat like that in trading partners, and so interest rates somewhat like those in trading partners, and so keep carry trade and currency flows from taking on a life of their own.

That's why I use the word "flocking." It is like birds or dolphins schooling. Distance from others matters more than absolute position.

The Federal Reserve successfully restored a modicum of price stability in 1981 and 1982 and has been able to maintain that ever since. They also provided adequate liquidity and emergency response over an 18 month period in 2007, 2008, and 2009. Dr. Calomiris may complain it wasn't an optimal response, but it succeeded in stabilizing the economy and limiting the damage to a 5% contraction rather than the 30% contraction we suffered during the previous banking crisis. We've had 3 economic contractions over the space of 35 years, one of them mild and another hardly discernable. For their trouble, they're scapegoated by people promoting sure-to-be-disastrous policy nostrums and people addled by imaginary conspiracies. They're also taken to task by bored economists who have to turn in copy on deadline.

"The Federal Reserve successfully restored a modicum of price stability in 1981 and 1982 and has been able to maintain that ever since."

Which prices?

There are three principal indices and their movements are correlated.

So in real terms everybody's managed to keep running in place? I see a lot of contra-indications.

If production statistics and price statistics and labor force statistics bother you, make up your own numbers. Just don't pester other people with your fictions.

Great post Tyler. This is why I read MR.

The Fed is independent in the government, not independent of the government.

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