Sunday, September 14, 2014

Where is the Foundation? (A Response for Lars)

Does a reasonable argument for an undeclared nominal target already exist, tucked away within the corridors of central banking? Certainly, market monetarists could hope so. Perhaps the logic has really been there all along since the Great Recession and we just didn't realize it. Recent posts from Lars Christensen suggest that the present level target of 4% could be purposeful along those lines. More importantly, he reaffirmed his belief that we need to let bygones be bygones, thereby accepting both the lower output and the growth path which has resulted since the Great Recession.

Regular readers know that I'm not convinced. Not only do I feel that the present (unannounced) level target is too low by at least a percent, but I also believe it is a poor strategy for the Fed to give up on lost output. Who exactly took the which we all gave up on future growth? In this response for Lars, my first concern (and that of others as well) is whether market monetarists can rely upon the seeming "goodwill" of the Fed to maintain a steady level nominal target. Even if the Fed has inadvertently done since 2009, to a relative degree.

Of course it helps to remember that an approximation of said target, versus a well voiced commitment to a steady nominal level, are far and away not the same thing. If one was to think of this "fortunate" reality more concretely, it's not at all clear that the Fed is very enthusiastic about the implied relationship with market monetarist expectations. If it was, not only would a potential nominal target rule be under active discussion, the Fed would also make that clear to the public as well. Sometimes I wonder whether the public will eventually convince the Fed of the importance of a nominal target, instead of the other way around.

As a result, little about the hopeful assumption on Lar's part really feels solid. Granted, to outsiders the U.S. can appear economically healthy compared to other countries, but many of the positive statistics are coming from cities of which economic circumstance are quite different from the country as as whole. In the U.S., the Great Recession should have been a strong signal for our governments and business interests to get their acts together and overcome the obstacles which stand in the way of innovation and the potential of a digital age. Instead, we have been subjected to moral stories about finance over and over again, as if our economic lives are somehow supposed to consist of little else than bank loans.

Hence, should we rely on hopeful assessments? Or will the first sign of high winds (i.e. the next really negative supply shock) send central bankers running for cover, once again? Supply side issues concerning Obamacare are one thing, as frustrating as they are. However, a primary concern is whether the Fed believes that certain commodities are worth a lot more than the economic participation of actual human beings. Unfortunately, I suspect this still holds true. How does anyone know that central bankers will not overreact again, should oil prices suddenly spike?

Without a level targeting rule in place, it's difficult to assume anything! But if one is willing to settle for "comforting" numbers in the meantime, how exactly does that improve the chances of gaining a rule for a nominal target? In the meantime the Fed continues to take on roles which imply it is capable of doing much more than its assignment actually allows. Even though the Fed concentrates on aggregate demand issues, it spends quite a lot of time debating and studying supply side issues - whether or not it is not in a direct position to do anything about them.

Worse, no one else is in a position either, to be responsible for the supply side problems which continue to create economic gridlock in the present. In spite of ongoing papers which continue to get churned out regarding both demand and supply side conditions, no one is preparing to take real constructive action on supply side aspects of this work as far as I can tell. If they were, we would not have already "gotten the memo" that real growth is out of the question.The problem for both the Fed and the U.S. government is that too many special interests have become highly resistant to needed change. The only way to circumvent the resistance is to begin the process of experimentation around the edges. This needs to happen before the possibility of greater growth in the near future is completely ruled out.

The Fed needs to do its part to break the logjam between government and business interests, instead of contributing to it. This is what worries me most about any praise for the Fed, even though I do not judge them as harshly as I once did. There is a chance that praise for them now, will only be interpreted as an "all clear" signal to move ahead as though everything is back to normal...when it clearly is not. What is problematic for market monetarists is that the Fed is still working from a perspective which lines up with the needs and expectations of finance, rather than the public as a whole.

In short, this is no time to declare victory. Not only is the present growth trajectory far short of its potential, but the purpose and intent of a nominal target is not yet obvious to the public, as a true source of monetary stability. As long as people associate money with financial concerns instead of the reality of their economic lives, not much can change. One only hopes if and when a nominal targeting rule is finally adopted, that its adoption will be associated with success and renewed prosperity, rather than the lack of it. There is still much work to be done.

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