Michael Belongia on the Fed
Jan 11 2010

Michael Belongia of the University of Mississippi and former economist at the St. Louis Federal Reserve talks with EconTalk host Russ Roberts about the inner workings, politics, and economics of the Federal Reserve. Belongia talks about the role that power and politics play in Federal Reserve decision-making and how various Fed chairs used their power to suppress dissent within the Fed that was critical of Fed policy. He argues that the Fed faces an unresolvable dilemma when asked to achieve the multiple goals of full employment and price stability using only the federal funds rate as a policy lever. The discussion concludes with Belongia's indictment of the monetary data that the Fed produces.

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Explore audio transcript, further reading that will help you delve deeper into this week’s episode, and vigorous conversations in the form of our comments section below.


Jan 11 2010 at 12:10pm

A thoroughly enjoyable podcast with a lot of depth to it, especially with your focus on the inner workings of the Fed. I learned a lot.

The only question that I would have asked/was waiting to be asked is that in the current political atmosphere, the only proposed check on the Fed seems to be Ron Paul’s bill to require an audit of the Fed. If something like that is passed, does Prof. Belongia view that as something that would indeed initiate the C-change that he advocates, something that might be a good first step, or something that is irrelevant because it has no real teeth and is just typical political grandstanding?

Jan 11 2010 at 5:18pm

An interesting, even startling (to me) podcast, and I have to admit my head is swimming. We’ve had quite a number of guests speaking about monetary policy, including John Taylor himself. While there’s been some overlap in views, such as between Belongia and Sumner, what shocks me is the predominant incompatibility of views. Belongia says the period from 2003 to 2008 was restrictive, making the recession inevitable. Taylor said ’03 to ’07 was so loose it clearly cause the housing bubble. Russ, I wish you had asked Belongia to reconcile the housing bubble with a restrictive monetary policy. Certainly the current consensus is that expansion under Greenspan was a crucial factor in the bubble and crisis. Yet Belongia takes Greenspan off that particular hook! He wasn’t expansionary at all, his sin was the reverse!

And now we learn that no one at all even knows either the level or rate of change of the money supply? As I said, my head swims.

Jan 11 2010 at 8:31pm

I just want to point out that contrary to what Belongia said or at least implied, his view of the dual mandate is in the far minority. There are some economists that think the Fed can only target price stability, which of course makes it hard to criticize this Fed, also, of course Japan’s central bank in the nineties and the past actions of the ECB.

Jan 12 2010 at 7:45am

Like emerich, my head is swimming. Russ, I think you’ve got a responsibility to interview some people who can confirm or deny some of that stuff. Right now, I have no idea what to believe.

Jan 12 2010 at 3:42pm

I’d like to also point out that according to Belongia, the fed’s recent record looks great. That is, they’ve promoted price stability. Unfortunately, many economists (how often do Mankiw, Krugman, and Sumner agree on something) think the fed should NOT be promoting price stability. Rather, they think the Fed should print money so that prices rise allowing a negative real interest rate to clear the market. That is, create inflation, so that holding money is costly, so more of that money will be invested.

Emmanuel Martin
Jan 12 2010 at 5:17pm

Thanks for this new podcast, but just like others my head is swimming : was the Fed policy was expansionary (like Taylor thinks) or tight ?
Merci !

Jan 12 2010 at 5:40pm

well, at least we *did* get the first sexist comment on econtalk. 😉

JP Koning
Jan 12 2010 at 6:56pm

At first I didn’t believe Belongia when he described Greenspan’s use of the Federal Reserve Board to change the federal funds rate. That would be illegal, and guys like Greenspan follow all the laws, right?

Why illegal? The FF rate is manipulated up or down by open market purchases and sales, and subsequently anchored by the same. According to section 12A of the Federal Reserve Act, all such transactions are under the purview of the FOMC, not the Federal Reserve Board. Greenspan’s use of the Board to instruct the Fed trading desk to manipulate the FF rate would therefore contradict the Act and therefore be breaking the law.

I did some poking around the Federal Reserve website; below are the minutes of one of the decisions Belongia describes. (Feb 1, 1991)


In the minutes Greenspan announces that the Board is reducing the discount rate by 0.5%, which is fine, since the Board is responsible for discount rates. But he goes on to say that the Board will be “passing through” this entire amount to the FF rate. In other words, if the FF rate were to require downwards pressure after the discount rate announcement, Greenspan (ie the Board) would tell the Federal reserve trading desk to buy securities. Furthermore, the new anchoring point of the FF rate would be maintained by Fed purchases and sales, as per Board instructions. All of this goes contra to the FR Act – only the FOMC can instruct the desk to buy and sell.

St. Louis Fed President Tom Melzer (Belongia’s boss) diplomatically points out that the FOMC and not the Board should be making the decision on the pass through to the FF rate. Greenspan obfuscates and disagrees.

Boston Fed President Dick Syron also questions the move, noting that a formal FOMC vote would be appropriate. Greenspan says; “I would just as soon not, Dick.”

No voting. No strong disagreement. Greenspan carries the day.

So there you go. Greenspan used a Board decision to lower the discount rate to simultaneously lower the FF rate, thereby skirting the rules that limit such a decision to the FOMC. Central bankers do break the law (from time to time). Thanks to Belongia and Russ for bringing this up.

Gary H
Jan 14 2010 at 10:35am

The link in JP Koning’s comment is truncated; add “.pdf” at the end.

[Hi, Gary. The .pdf is in the comment. It might not show up in some browsers though. Thanks for the tip.–Econlib Ed.]

Gary H
Jan 14 2010 at 11:02am

Whoops – the “.pdf” (and potentially, more of the URL) is truncated only if you’re displaying using a large font size.

I am going on at length about the URL because the conference call transcript is well worth reading. There are subtleties lost in JP Koning’s summarization, but on the whole I have to agree: the board seems to have usurped FOMC authority in this instance, and Greenspan’s response to Melzer and Syron’s tactful push-back was definitely obfuscatory. If they thought his obfuscation was accidental – ie. symptomatic of a genuine Greenspan misunderstanding of the Board’s authority – Melzer and Syron presumeably would have clarified. Since they didn’t, we are left to assume Melzer and Syron believed Greenspan was knowingly exceeding the Board’s power and chose (for whatever reason) not to argue the point further (perhaps because this was not the first time).

Josh R
Jan 14 2010 at 4:23pm

I don’t think Roberts and Belongia appreciate how little the public will ever understand central banking (regardless of how many mandates they have). The US public gives the Fed lower approval ratings than the IRS. Presumably taxpayers are grateful that the IRS only takes their money in small doses and with fair warning.

The public’s inability to wrap their heads around monetary policy has political consequences that make some aspects of the Fed’s existing structure more optimal than Roberts and Belongia care to admit. If the Fed didn’t have to answer to full employment and the Chairman was “the most boring person in Washington … in the basement of a building,” the public would lose the little faith it does have in the Fed and the US Congress would end up making monetary policy decisions.

What works for the New England Patriots doesn’t work for Central Bankers, because the public understands football and doesn’t elect the referees.

JP Koning
Jan 14 2010 at 10:04pm

Note that here is the text of the actual press release from Friday, Feb 1, 1991.

It emphasizes that the decision was a Board decision (not FOMC), and there is no mention of a change to the Fed Funds rate.

JP Koning
Jan 14 2010 at 10:32pm

Also, Belongia and Russ talked about the press’s reaction to the Fed’s rate change.

From the NYT, here are a few pertinent quotes (bold hilights are mine).

Sat, Feb 2.

“Within minutes of the Labor Department’s release of the employment figures this morning, the Federal Reserve announced that it had cut the discount rate to 6 percent, from 6 1/2 percent. This is the rate the central bank charges on loans to commercial banks… Later in the morning, the Federal Reserve bought large quantities of Government securities to indicate to the financial markets that it wanted to lower its target for the crucial Federal funds rate, apparently to 6 1/4 percent, from 6 3/4 percent.

Sun, Feb 3.

“On Friday, the Fed lowered its discount rate half a percentage point and was apparently trying to cut the Federal funds rate by the same amount.”

“The lowering of the discount rate to 6 percent — combined with the apparent effort to set a target for the Fed funds rate of 6.25 percent — represented a new aggressive posture…”

Tue, Feb 5.

“Analysts said the Federal Reserve appeared to confirm that it has moved its target for the Federal funds rate to 6.25 percent, from 6.75 percent. Yesterday, the Fed drained reserves from the banking system at a time when the funds rate was trading at 6 3/16 percent. “I looked at the transaction as confirmation they are at 6.25 percent,” said Michael J. Moran, chief economist at Daiwa Securities America Inc.”

So it seems evident from the NYT articles that though no indication had been given in the Fed’s press release of a change in the target for the Fed funds rate, an “apparent” change in the target rate now “appeared” to be in force due to Fed purchases. The NYT didn’t find anything significant about the fact that this change had not been announced, nor that it had come from the Board rather than the FOMC, a serious breach or protocol. Go NYT!

Jan 15 2010 at 7:54am

Great podcast, particularly enlightening, and interesting comments, too.

I’m not sure if this is the right place for this but I wanted to bring up a possible topic for a podcast.

From a recent Financial Times column by Martin Wolfe: “Over the past two decades the [Japanese] economy has grown at an average annual rate of 1.1 per cent. According to Angus Maddison , the economic historian, Japan’s gross domestic product per head (at purchasing power parity) rose from 20 per cent of US levels in 1950 to a peak of 85 per cent in 1991. By 2006, it was 72 per cent. In real terms, the value of the Nikkei stock market index is a quarter of what it was two decades ago. Perhaps most frighteningly, general government net and gross debt have jumped from 13 and 68 per cent of gross domestic product in 1991, to forecasts of 115 per cent and 227 per cent in 2010.”

“The rest of the world has to wonder whether it is learning the lessons from Japan’s fall from economic grace. Japan’s experience strongly suggests that even sustained fiscal deficits, zero interest rates and quantitative easing will not lead to soaring inflation in post-bubble economies suffering from excess capacity and a balance-sheet overhang, such as the US. It also suggests that unwinding from such excesses is a long-term process.”

I am not sure if you have covered the recent history of Japan’s economy and what lessons it might provide for the US and the West. It would be an interesting topic.

Jan 15 2010 at 2:16pm

Russ, thank you for this podcast, it was one of the best that I’ve listened since I started following EconTalk. Too bad you only had about an hour to interview him, because there are so many things I would’ve wanted to know. For example, what does Belongia think of the current Chairman? Is he an autocrat like Greenspan was? For some reason, I think he’s a bit different, being a docile academic, but I’m not sure. Belongia revealed quite a few interesting points and it would be great to have him back, answering to all the questions posted here.

It seems to me that the heads of regional Federal Reserve Banks are more sensible and realistic. Which begs the question – could you have more regional central bankers on the show? Someone like Belongia for example, who would give a feel on what goes on inside the board meetings.

BTW, where’s Mike Munger?

Jan 18 2010 at 10:03am

“acting like school girls” – “all that was missing was the party dresses” – PLEASE – this is denigrating and offensive – I’m very disappointed that this was allowed to pass without comment.

Jan 19 2010 at 9:48am

It’s odd that Belongia and Roberts agree that the Fed can’t pursue two targets because it has only one lever. They even agree that there’s been a mathematical proof of this assertion. But the predicate is false. The Fed no longer just buys and sells Treasuries. It offers guarantees and facilities and windows and buys and sells and enters into repo contracts on all sorts of financial garbage. And the odd part is that they know this perfectly well, but still spout this obsolete argument as if it hadn’t been completely overtaken by the Fed’s bursting all bounds. That the chairman is using one lapdog group to encroach on the proper privileges of another lapdog group is pretty small beer compared with all the other damaging things that are being done without any statutory authority whatsoever.

Russ Roberts
Jan 19 2010 at 11:28am


It didn’t quite pass without comment. I commented hoping he would rephrase or retract. But he didn’t.

Feb 1 2010 at 6:45pm

If you think that a congregation of little girls in party dresses behave in a manner indistinguishable from a similar number of little boys you are letting PC dogma overpower observational evidence. Maybe he didn’t retract because the image was the one he intended. In which case I salute his unwillingness to be bullied out of saying what he meant.

Feb 8 2010 at 9:02am

Just got round to listening to this one now. Amazing to hear so many assumed truths to be disputed in one hour. Great to learn that the Fed is not all knowing, just likes to pretend to be. How about a Podcast on the working of other central banks BOE, ECB, BOJ etc?

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Podcast Episode Highlights
0:36Intro. [Recording date: January 6, 2010.] Federal Reserve: What does the Fed do now? What is the range of activities. Responsibilities in three broad areas. Most attention given to its responsibility for monetary policy. Greater scrutiny now for its responsibilities for bank regulation and supervision. Least to third area: provision of bank services--check clearing and cash distribution. Twelve regional banks with oversight by Board in Washington. When we read about the Fed deciding to change or leave the Federal Funds range unchanged, what do the regional banks have to do with that? Input in policy meetings from the local offices; variety of opinions coming from the regional bank presidents, ease or tighten. To outside world, some difference of opinion. In practice, it depends on the strength of the Chairman and what the individual presidents wish to do. Chairman and Board staff tend to run the show. Appearances aside, regional bank presidents do not have all that much input into the making of policy. Two reasons for that: one: If the Chairman cannot get his way in policy, he doesn't stand as Chairman very long. True often in the Volker era--much scrutiny of key policy votes; speculation that the Chairman was not in charge and might be time to be replaced. Strange. In essay, observed when Greenspan was Chairman, at Federal Reserve Open Market Committee (FOMC) meetings, exercised control in duplicitous way. At FOMC meetings each of the 12 regional bank presidents and other 6 governors would take turns going around the table summarizing their idea of where the economy stood and whether current policy should be maintained or perhaps a move should be made on the funds rate. After everyone had spoken, Greenspan could get an idea, say, if he wanted to move on the funds rate, if he had the votes to make that move. If he didn't have the votes, he wouldn't propose a policy change. Committee would vote and announcement would be made. FOMC meeting on Tuesday. On Friday morning, the Board of Governors of the Federal Reserve--the 6 members--meets with the Chairman. Noted macroeconomists, bankers, appointed as political payoff: backgrounds vary. Greenspan comes into the room with a recommendation from one or two of the regional banks to change the discount rate and call for a vote--not the Federal Funds rate. Federal Funds rate is the rate banks charge each other for overnight loans; Fed intervenes to affect that rate by either injecting or taking out money to get that rate to move to the Federal Funds target. It's a competitive, market rate. What's the discount rate? Set administratively by the Fed--it's the rate at which member banks can borrow from the Fed's discount window. If a bank's reserves drop below its required reserves, it can get money from the Fed itself--direct borrowing from the Fed. Supposed to be used as a lender of last resort occasion, when member banks are solvent but temporarily illiquid. Not a market rate--Fed just sets it. At the time we're talking about it was below the Federal Funds rate. So, Greenspan would propose a change to the discount rate on Friday morning. To do that he has to have a proposal from one of the 12 regional banks; typically would be one bank. Vote would be in favor of changing the discount rate. Unanimous or one dissent; if no big majority, Chairman's authority would be brought into question. Board would vote with the Chairman.
10:41What's the impact of that? When the discount rate would change, there would be wider spread between the discount rate and the Federal Funds rate--assuming goal is to ease policy without the consent of the FOMC. For "technical reasons" would do a corresponding pass-through change in the Federal Funds rate--so if moved 25 basis points on the discount rate, would instruct the desk that for technical reasons they should move the Federal Funds rate in the same direction and by the same amount. What you've done is divert the will of the FOMC. So Greenspan lowers the discount rate and then says to the open market desk that they'll want to move the Federal Funds rate by that amount, too. Not well known. None of the regional presidents every spoke up. Two bank presidents who were strong allies of Greenspan, would go along with anything he wanted; but this had gone on for a number of years. Trying to draw Greenspan out of the bushes--will we be sandbagged again? Nobody said anything. Now back at U. of Mississippi, but Belongia was there at the time. Information content of this ruse: the Press reports on the Federal Funds target that comes out of the Tuesday meeting; Greenspan made sure that was supported by the people in the room; but on Friday maneuvered differently. Is that reported? Can look at the record--about a half dozen or maybe more over a three-year period, between about 1989 and 1981. Not particularly sinister--not covered up. Wall Street Journal, NY Times would report it on the Friday.
16:19In essay, suggestion that we don't need the regional banks, or we don't need as many. Begs the question of what you want the regional banks to do. In essay, point out that when Volker was Chairman, he vetoed the choices of two local Boards of Directors of who was to be the local bank president. Vetoed jerry Jordan at Atlanta and Lee Hoskins at St. Louis. Both well-known monetarists; both had well-established records of what they believed in. Reported in the press that Volker wanted the strongest dissenting voice to be silenced. Volker wanted research department shut down. Arthur Burns--more sinister way. Jordan had been director of research briefly at St. Louis, track record of monetarist tendencies. Could make the case that Volker didn't want people like that as regional bank papers. Either you want strong independent points of view, or get rid of them. Strange assessment of Volker's motivation: most of us think of Volker as a monetarist. He wrung inflation out of the system in the early 1980s, late 1970s; recognized role of money supply in creating inflation; raised the Federal Fund rate through open market operations. Interesting alternative: Alton Gilbert, long-time member of the St. Louis staff, had a paper censored by Volker around 1980 or 1981 that was subsequently published in the St. Louis Review about 1985. Used confidential data from the NY Fed's trading desk to demonstrate that at the time the Fed was allegedly doing monetary targeting, it was doing anything but that. Was set to give this paper at Karl Brunner's monetary conference when he was sent a memo ordering him to destroy all copies of the paper. Argument Volker gave was interesting. The paper only included means and variances of the data; but argument was that someone could possibly construct the individual trades from a table of means and variances. Two people walk into a room and average height is six feet tall; presumably from that you can construct their individual heights. The expressed reason is not really credible. What was the worry? The Fed was still fooling around with interest rates. Didn't they say that was what they were doing? Allegedly, after Oct. 6, 1979 famous Saturday emergency meeting they were adopting a policy of targeting the aggregates. Presumably continued that policy until October of 1982, when the misbehaving aggregates caused them to switch to something else. Fears of losing credibility or something else; paper was feared as being critical of what they'd done.
22:58As a grad student, Russ was taught that the Fed controlled the money supply; as time passed, the Fed became focuser on the Federal Funds rate. In 2006 Friedman podcast, he said the Fed says they are targeting interest rates but what they really do is target the aggregates; if they do that the economy does well and if they don't the economy doesn't do well. What's your take on that? Paper in the 2007 issue of Public Choice--old argument, Allan Meltzer, Brunner, and Friedman have made it. Source of confusion about how the Fed falls into mistakes. The Fed has a single tool, open market operations, where it injects or removes reserves from the banking system. With that, it can try to hit an intermediate target--an interest rate or the quantity of money. What information do you glean from that intermediate target? For most of its history, the intermediate target the Fed has pursued has been an interest rate--precisely how they get into trouble. Why do they get in trouble? As a market-determined price, it can change because of changes in the supply of reserves or the demand for reserves, independently of the Fed's open market operations. The Fed believes every change is a result of their actions; do not make allowances for the possibility it can change because of a change in the public's demand for loans, which will in turn affect bank reserves. Consider what happens if we go into an economic downturn. The demand for loans will fall. In turn, the demand for bank reserves will fall, because reserves are an input to bank lending. The Fed will see a decline in the Federal Funds rate and mistakenly assume they have been overly expansionary in their provision of reserves to the banking system, and will tighten up, give an instruction to the desk: we've been too accommodative, so let's drain reserves, exacerbating the economy's decline. In the summer of 2008, everybody has been saying the Fed's been really easy; look how low the Funds rate was. Op ed piece, not accepted by the Wall Street Journal, pointing out that the 5-year growth rate of bank reserves had been slightly negative; Fed had been restrictive for a 5-year period. No wonder the economy was on the verge of a recession. Funds rate: signal was Fed had been easy. In reverse, get the same thing during an upturn; demand for loans rises, so demand for reserves rises, which pushes the Funds rate up; the Fed looks at it and thinks they have been too restrictive and start to loosen precisely as the economy is expanding. Scott Sumner podcast: we often mistakenly look at the funds rate. The Fed itself gets confused--confuses its proxy for the money supply, the target it wants to be manipulating. What a regional bank can do if it gets involved in the process. In 1976, Journal of Monetary Economics had a series of essays in honor of Homer Jones, director of St. Louis Fed between 1957-1971. He introduced many things that the modern Federal Reserve accepts as given, such as hiring economists to write scientific articles and holding conferences and publishing data. One of the essays, written by Jim Meigs, worked at St. Louis Fed while finishing his U. of Chicago dissertation, traces a number of things in the policy record, things the 1959-1961 St. Louis president was trying to introduce--ways that the Fed was operating, confusing being tight for being loose. Not much difference now from what was going on back then. How little things have changed in the way the Fed does policy, not operating as an academic research department trying to impress its professional colleagues but focusing on making a difference in the monetary process. Theme: The different regional Feds have economists who write on all kinds of things, like different economics departments at universities. Suggesting that they should write on monetary policy. They write on all kinds of things. It has become strange. Pressure from interest groups, pressure from boards of directors, vision of individual bank presidents, and also pressure from the Board of Governors. The Board of Governors would like nothing better than to have the 12 regional banks work on ice fishing--anything other than monetary policy. Economists who would like to write about ice fishing like it that they are pushed that way, but that's a small group. Other areas the Feds write on. People who work at the Fed enjoy the freedom to write on their topics of interest and don't want to just write on assessing the Fed, so they like that. Power.
33:38Recommendations: makeover for the Fed. Making the Fed more accountable. Essay recommendations: shrink the regional banks since they are not doing the role of helping critique and measure the Fed's policy but merely cheerleading or doing something else with taxpayer money. Fewer? What else do you recommend to make the Fed more effective? The reason for shrinking the number of districts from 12 to 5 is motivated by a number of things. The price services function, check clearing and other things the Fed does has declined enormously. No reason today to have the volume of services that needs to be done. Fed's supervisory and regulatory function, advocated by Volker and possibly Greenspan: if you are going to provide a stable and sound payments mechanism, the Fed only needs to supervise the 100 largest holding companies. How many does it supervise now? It supervises Federal Reserve member banks--a lot of institutions, many small and don't have an integral role in the payments system. Could reduce, focus regulatory function on a small number of large institutions to keep the payments system sound. If you are going to keep bank presidents as voting members of the FOMC, some bank presidents now get a vote only every third year. Hard to take things seriously. Permanent voting members. Political economy weird: whatever incentive the Chair would have to pick those regional bank heads now, would really try to co-opt those folks if they could vote every time. Begs the question of who appoints them. Currently appointed by the Boards of Directors of those regional banks. Under the current structure, the Chairman has the option to veto. Prefer to see them appointed by the President and confirmed by the Senate as the Board of Governors are, to take that veto power away from the Chairman. Far too much meddling.
38:11Going to more philosophical issue: as a body politic, comforting to voters to think there is a maestro at the Fed. Alan Greenspan Times Man of the Year in 2001--not quite as popular today or as respected. Today, new maestro--Ben Bernanke! He understands, pulled us back from the brink. Idea that there might be five independent, thoughtful folks who might disagree would pull the curtain back from this charade that the Fed is led by this all-seeing wizard of monetary policy. Hard to do. Not always clear what is the "right" Federal Funds rate. Problem, essay: things have been made a mess by Congress's insistence on a dual mandate for the Fed, which is something we know is impossible from basic economic theory. Tinbergen gave us the mathematical result: the Fed has one instrument--one lever--and with one instrument you can at most pursue one independent objective. Congress tells the Fed to pursue full employment--which you can couch in terms of full output--and price stability. Built into the system an impossible mandate for monetary policy. Mostly the bank presidents run around embracing this dual mandate like little schoolgirls: We have this dual mandate! Instead of saying to Congress, we can't do this; tell us to pursue something we can achieve, such as price stability. Most schoolboys. Embarrassing. Want to keep their jobs. Social mission, community development, distractions, politically what they have to do to stay in office. Jobs not that threatened. Don't know that any regional bank president has ever lost his job for saying this; haven't said it very often. Would at least serve one term, not in danger of being unemployable. Responsible to go out the promote the idea that this mandate can be embraced when it is something that cannot be achieved.
42:48Taylor Rule? Two inputs: size of the economy and the change in inflation. Two goals; feedback loop. John Taylor argues that when the Fed is doing its job well, they can handle these two things; need to keep the economy on an even keel. Assessment? Don't buy any of that. Which Taylor rule? Brad deLong's site: John Taylor's rule or Glenn Rudebusch and others--completely different Taylor Rule. Two give wildly different answers. Can add to this mess the Taylor Rule as interpreted by the St. Louis Fed, plotted on p. 10 of Monetary Trends and show what it implies for different assumptions about the Fed's value for target inflation. We know how quickly the economics profession discarded the monetary aggregates in the 1980s when they so-called started to misbehave--M1, M2. If the profession started to apply the same impatience that they applied to the monetary aggregates to the Taylor Rule we'd have stopped talking about it a long time ago. Why so attached to the Taylor Rule? If you look at, in Monetary Trends, Fed was targeting very high inflation rates in the recent past; but does anyone believe that? No. But people are attached to it. Take on trying to achieve two goals; Scott Sumner. Nominal GDP targeting was popular in the early 1990s; Bob Perry president of the San Francisco Fed at the time; wanted to give his take. Sumner podcast: GDP rising in current dollars, want money supply to fall; if falling, be more loose. Change Federal Funds rate accordingly. Gets at notion of looking at prices and real output simultaneously. Bob Perry wanted to talk about nominal GDP targeting at the time and thought that a 6% growth in nominal GDP would make sense. Inflation at 3%, real output growth at 3%, so nominal growth would be 6%. Small meeting of Fed economists; San Francisco Fed; Milton Friedman at luncheon and said: "This is all nice, Bob, but tell me what you would do if you are at your nominal target of 6% but you have 7% on prices and -1% on real?" Awkward. Stagflation. High inflation, economy is growing negatively, recession. Doesn't take a great deal of imagination to envision we could be there a year from now--low employment, prices start to take off; housing overhang but real economy still not in good shape. What does Fed do--nip inflation or handle real economy? That's why Congress has given them two targets--Congress doesn't want them to focus on inflation in that world; they want them to get those people back to work. Right? Ignore one. Can't solve both at once. What most people have in mind is two goals, sometimes one is more important than the other, so focus on the important one. Dynamic inconsistency of optimal plan. Changes in tax rates; the only thing monetary policy can deal with is price stability.
49:54How would you get there? Not the Taylor rule. How should the Fed achieve that goal of price stability? Fed get back to its business of constructing monetary data, which it is not currently doing. Indict the Fed on failing to collect and publish accurate data on money. Isn't that what the Fed does? What's wrong? They are publishing data on money, none of which is scientifically valid. The data it publishes comply with no economic or statistical standards that would be recognized by economists or the Bureau of Labor Statistics (BLS). Meaningless data. They publish M1, M2--why not statistically reliable? and what should they be collecting? Problems complicated by Sweeps programs. When you begin to pay interest on deposits--checking accounts, banking system--things should not be added together, but weighted differently, just as components of the CPI. Not just p_1 + p_2 +p_3. Don't want to weight sardine prices with heavy equipment. What happened within the Board of Governors' special studies section in the late 1970s was that work was done to figure out how you would create expenditure share weights for currency, checkable deposits that didn't pay interest, checkable deposits that did pay interest, as well as where you would draw the dividing lines. Not clear that M1--current definition--is the dividing line. Might be M1 plus some other things. Some work stalled; should be going on at the Board of Governors: weighted measure of money. Don't think that much of the consumer price index (CPI), so that's not so exciting as might be hoped. Casual, not technical. Weighted measure by expenditure shares, weighted by expenditures on monetary services. International data on this don't behave anything like the official accounting data; give you different inferences about testable hypotheses about future course of inflation, course of money in the cycle, etc. Fed reconstructed their index of industrial production in this manner; but have done nothing with money. Hide the truth or other things? If we had a good monetary series, what goal for the Chair of the Fed to do with those data? People advocate, small group at least: keeping the supply of reserves on a stable path that would keep the inflation rate low and stable so that people can make long-term planning decisions. Monetary policy can't influence real variables in the long run; can't fine-tune the business cycle; no evidence to support idea that monetary policy can do much more. By pretending it can do other things it introduces uncertainty into the world. Politics of the Fed, seems kind of dysfunctional. Get rid of it and have private money? Would impose lots of information costs. Chairman of Fed instead of being elected man of the year might simply be the most boring person in Washington. Ought to put him in the basement of a building with stereo system and food and not let him come out for a year, not talk to the Press. Bill Belichick school of monetary policy. Fed Chair gets praised for his crypticness, so put him in the basement and don't even let him be cryptic. Just let him be boring. Counterpoint: Greenspan running out and saying things about irrational exuberance, Fed's responsible. How does he know what the right value for the DOW is, and all of a sudden you have all of these ancillary targets that have absolutely nothing to do with anything. Should have been fired after that speech. Define a bubble; when was last time anyone was able to predict one in advance? And if you want to deflate one, what are the costs to other things going on in the economy? Exchange rate target--now up to four targets: keep dollar stable, inflation stable, employment stable, and no asset exuberance of the wrong kind.
1:00:15Transparency and accountability. The Fed needs to be more accountable. The Fed now has more than $1 trillion in housing loans on its books. Bizarre: launched into this whole new area. Whole new area--got to keep mortgage rates stable and have everyone able to buy a house. What should be the political influence on the Fed? He's a political animal. Hard to hold him accountable right now when you have a dual mandate that is impossible. First thing you need to reconcile is by giving the Fed a mandate that is in fact achievable. Example: Central Bank of New Zealand reformed more than a decade ago: if you don't achieve, we will reduce your salary or remove you from office. First, set a mandate that makes sense: price level, rate of change for the price level that is very specific. Independence and accountability are at opposite ends of a continuum. The only way that the Fed should be independent is that once you give it a mandate, the Fed is free to pursue that mandate any way that it chooses. If the Fed's responsible for keeping the inflation rate between 0-2% it can do that by targeting the money supply, the Taylor Rule, or following a Ouija board. If they fail to achieve the result, penalties; accountability. Transparency: Fed now announces after each meeting what the new Fed Funds rate is--another censored Fed paper, topic for another day--no idea how they are arriving at anything that they do. Talk that they are following the Taylor Rule. Bear Sterns episode: abrogation of democracy. Where is the accountability? Why were they allowed to do that? What weight attached to employment versus inflation at any one point in time? No idea what they might attach to one objective versus another. None of this is transparent. Any ex post justification? No. As a practical matter, not much transparency at all. Would come forth if backed up by a practical mandate, explicit statement of how you would achieve it. Price stability: achieve by 2% reserve growth, with intermediate target for this variable and provide data the public could monitor to see if you are on that path, that would be transparency the public could monitor.
1:06:03Thirst that people want the comfort that people want someone at the top of the economy running it. President; Chairman of the Fed. Why does it persist? Thirst; Ignorance; Inherent advantages that accrue to economists about what the Fed can do. Mission creep. Fed steering the economy; every once in a while disastrous mis-step. Who should be fired? Well, it was complicated. Without any data, how would have any accountability. Bootlegger and baptists story--we like the idea that the Fed can steer the economy. People at the top reap the benefits. Comment? Doctors or scientists or economists: all professions and individuals get into trouble when you oversell what you can do. The worst thing you can do when take your first job is over promise what you can do. Fed's problems self-inflicted. Retrench: this is what you can reasonably expect from us. Refine what it can do in bank regulation so that it has faith in the regulatory function; get back to monetary policy, what it can deliver. Wizard of Oz role--can't help but disappoint. "It needs to"--no "it" there. Next Chairman of the Fed has no incentive to say it should have a smaller role. Time Magazine from Roosevelt Administration in waiting room. Memorial for Tony Snow: so refreshing as the White House spokesman because he would say, "I don't know." Individuals who take office. Can't make Paul Volker or Alan Greenspan behave in a certain way; but can make rules. Ben Bernanke was first rate economist; now a first rate bureaucrat. Different incentives. Political pressure about who is in the job. From the inside, sometimes individuals do make a difference; heroic people do sometimes do heroic things. At the margins we can change incentives a little bit.