September 21, 2016

What will the Fed do? (Sept. FOMC update) By Jon Faust

After last night’s post, I got emails accusing me of being a two-handed economist. While anatomically correct, I take the point, so I’ll add this note saying that my view of likely policy is where it was in the Jackson Hole update.

A quick summary: I’ve been arguing that the consensus of the FOMC, as nurtured by the Chair, has followed a policy of steadfast commitment to gradual tightening, tempered by a willingness to take a tactical pause if credible evidence arises that job gains might soon falter. A more compact summary: Do it (slowly) until the economy says ‘No.’

The FOMC has been in a tactical pause since early this year, but by Jackson hole it looked pretty clear that—by the standards of how promptly the FOMC ended earlier tactical pauses—a rate increase would soon be warranted. As for the Sept. or Dec. question, I still feel this way:

[T]he timing of individual moves doesn’t matter much in terms of the Fed’s dual mandate. Predicting stuff that doesn’t matter is a sucker’s game, and I’ll pass. I know that this doesn’t help those of you who are eager to place bets on this question. Others can hedge the modest timing risk and focus on stuff that really matters.

Forced to give a probability on this question, my view is that a rate increase is very likely by year end (absent disturbing new data). As for the timing, I’ve hovered near 50 percent: I don’t have a clear sense of the minor considerations that might tip the balance.[1] These views have not changed.

What is the most likely scenario in which this view is wrong? Setting aside disturbing data, which obviously could and should change policy, my main caveat is this. While nonfarm payrolls and the headline unemployment rate continue to be consistent with one more interest rate step, other measures of the labor market are less encouraging.[2] The FOMC has always emphasized a holistic look at many indicators, but payroll gains and the headline unemployment rate have been the first among equals in communication on behalf of the consensus. If worries over these other measures were taking on greater importance, Jackson Hole would have been a natural place to surface that idea. Instead, Chair Yellen said the following:

Smoothing through the monthly ups and downs, job gains averaged 190,000 per month over the past three months. Although the unemployment rate has remained fairly steady this year, near 5 percent, broader measures of labor utilization have improved.

Not exactly sounding the alarm, and no hint of an emphasis shift toward worrisome aspects of broader measures.

Might the FOMC, nonetheless, cite these other measures as a reason to wait until December? Certainly, just about anything could justify that. Such a delay could be communicated in much the same way that communication after last September’s delay in liftoff was taken to mean that a December liftoff was very likely (absent an ugly turn in the data). If, however, the FOMC uses these other labor market measures as a reason for more than a modest change in timing, it would look to me like a poorly communicated, dovish turn in the intentions of the consensus.


1. My own belief, for what it’s worth, is that if the consensus has decided that rate increase is very likely by year end, I would do it now. But there will be 17 opinions on the lesser issues that will determine this timing question. If I were on the Committee, I wouldn’t push very hard for one over the other. [back]

2. Improvement in both payrolls and the unemployment rate have slowed, but essentially everyone on the FOMC expected this. Many would have been disturbed if this did not happen. However, U-6 is still elevated and now sits only one-tenth below last October. Total hours growth has slowed considerably. [back]

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September 21, 2016

We love a good sequel, but … By CFEGuru

By Bob Barbera and Jon Faust

Over the last several weeks, investors faced the realizations that the Fed might take one more step on the road to normalization and that Mario Draghi’s ‘Do what it takes’ might have morphed into ‘if pushed, we could do a bit more.’ This predictably brought a jump in bond yields around the world and talk of taper tantrum, the sequel. The more excitable of the monetary policy hawks and doves both tend to hear the words taper tantrum with a sense of horror. To many doves, the jump in yields following Bernanke’s taper talk threatened a 1937-like disaster and was proof that even a small step toward normalization is fraught with danger. To many hawks, the incident shocked the skittish Fed, causing it to hold rates unnaturally low ever since.


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September 1, 2016

Floyd Norris joins the CFE for the semester By Jon Faust

Floyd Norris, long-time columnist for the New York Times and one of the most astute observers of financial events over the last few decades has graciously agreed to spend some time with us this fall.

Floyd will join our regular reality roundtable discussions, and he’ll also teach a course, which starts today. He tells me that the class will look at what caused the financial crisis, at the reasons many economists did not see it coming, and at what was done—and should have been done—in the aftermath.

CFE co-director, Bob Barbera, notes that, “Floyd has a great sense of what matters and what doesn’t. He also has a delicious sense of irony, a handy attribute for someone critiquing the conventional wisdom.” I’d take the class if I could.

Not only is Floyd an astute analyst, as one of the top columnists for the New York Times, he’s obviously a great writer. For interested undergraduates, Floyd’s class will qualify as a writing intensive course. If you are lucky enough to get into the class, you’ll do some writing and I suspect that the feedback you’ll get will be pure gold.

(Note to students: I talk regularly to folks who hire our students. They seldom say they wish the students had crammed a few more facts in their heads. They regularly say that they wish the students could communicate what they know more effectively.)

I want to welcome Floyd and provide an early thank you from all of us at JHU for Floyd spending some time with us.

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September 1, 2016

What will the Fed do? (Jackson Hole update) By Jon Faust

This is the sixth post in a series on the well-disguised, steady predictability of Fed policy over the last several years. Here we provide a brief update about how Jackson Hole fits in the story.

Quick review: The story is that policy is driven by consensus of a large committee as nurtured by the Chair. Because the policy decision is updated every 6 weeks, but differing views on how the economy are very persistent, it is perfectly natural that the compromise policy may, for extended periods, be far from the typical view of the 19.[1] FOMC communication explains the 19 views in excruciating detail, but largely leaves aside how these views are blended in the compromise policy. Actual policy, consequently, (more…)

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August 27, 2016

Barbera on NPR By Jon Faust

I hope you heard Bob Barbera on NPR’s marketplace yesterday (text|podcast). He was commenting on a proposal some folks are pushing to make the Fed fully public, with all the FOMC members being congressionally approved. The laudable goal is to make the Fed more responsive to the less fortunate in our society. Advocates of the plan note that other central banks such as the ECB and Bank of England do not have the sort of private-public mix that the Fed has.

Bob points out a little problem with the argument: if stimulating the economy is how the central banks could help the less fortunate in the period since the crisis, the Fed has been considerably more supportive than its fully public counterparts.

As usual, when Bob offers an opinion, there is a good deal of systematic reasoning supporting it. We’ve written about this a good deal, including in the Wall Street journal, and in my recent piece on transparency. The short version of the argument is that the Fed’s weird structure was a carefully designed political compromise—a compromise resting firmly on Madison and Hamilton’s reasoning about democracy. Democracies, they knew, had strong tendency toward self-destructive policies such as inflation.

So, you might ask, how do fully public central banks such as the Bank of England and ECB deal with the inflation problem? Not well for most of the post-WWII era. The U.K. and many of the countries making up the euro area suffered much higher and more persistent inflation in the 1970s and 1980s than did the U.S. (Fig. 1). The Fed didn’t do great, but it did better.

Fig. 1. The Great Inflation in 3 economies. Source: National agencies via Fred.

As the great inflation wound down, nations of Europe and elsewhere looked for a political structure that would counterbalance the inflationary tendencies. The solution? A central bank with a single mandate to control inflation—whether or not that was good for anyone including the least fortunate. Shackled by this mandate, the Bank of England and ECB were considerably more restrictive in the early period of the recovery from the financial crisis, and they arguably exacerbated the period of high unemployment relative to what happened in the U.S. Again, the Fed didn’t do great, but it did better.

Is the Fed structure ideal? Surely not; it certainly is peculiar.

But beware of naïve fixes: Eight times a week on Broadway, George Washington sings that governing is hard and Hamilton adds that independence is filled with contradictions.

Postscript: We have heard that Barbera was not the most prominent person making Fed news yesterday. Some of you heard my preview of Chair Yellen’s speech on thursday. As we’ll expand on in a coming post, the speech was very much what we anticipated based on the Fed’s consistent behavior over several years.

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August 1, 2016

19 members, 12 voters, 1 policy By Jon Faust

Note: This is the fifth post in a series entitled Understanding FOMC actions and communications (Hint: two separate topics).

Dante’s seventh ring of hell, as I recall, is being forced to serve on a large committee. But imagine that you come across a large committee that somehow functioned effectively. Implausible certainly, but if you force yourself to imagine a well-functioning committee, I think you’ll agree that you’ll need some special feature to account for this minor miracle.

The FOMC is a large committee that functions pretty well. You cannot understand FOMC choices without understanding how consensus develops, is maintained, and evolves. This is a feature, not a bug. (more…)

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July 23, 2016

Big (perhaps HUGE) Stimulus in 2017? By CFEGuru

By Bob Barbera, Jon Faust, and Jonathan Wright

Amid all the political craziness at home and around the world, you may not have noticed that one bit of traditional policy wisdom is making a comeback. The biggest development for 2017 could be that ‘austerity as stimulus’ is out and ‘stimulus as stimulus’ is back in a big way.[1]

Following the election in Japan, Prime Minisiter Abe has rejected the seldom-mentioned fourth arrow in his stimulus quiver—big tax increases immediately following conventional stimulus. Following the Brexit vote, new Prime Minister May has dropped the goal of fiscal surplus by 2020 and the Chancellor of the Exchequer has declared a readiness to reset U.K. fiscal policy. China never drank the austerity Kool-aid and continues to declare a willingness to blend fiscal stimulus with structural reform to attain its economic goals.

But most remarkable of all may be the U.S. Candidate Trump is promising large tax cuts. His spending plans are, to be generous, not entirely clear, but it is hard to imagine this populist demagogue not spreading the spending around. And good luck getting the Mexicans to pay for that wall. On the other hand, if the election is a win for the Democrats, which at this point appears to be the most likely outcome, we get a Democratic President and much less deadlocked Capitol Hill. In this case, we’ll very likely see large stimulus.[2]

The main scenario in which the U.S. does not join the shift to fiscal stimulus is if Hillary wins the presidency, but fiscal conservatives gain ground in the Congress. This scenario seems pretty unlikely to us.

Thus, for varied reasons, the U.S., China, the U.K., and Japan may all be set for additional stimulus. That covers pretty much everyone. Well, everyone except for the euro area—the economies that may be most in need of stimulus.

Fleshing Out U.S. Stimulus Chances

Political forecasters now give Trump somewhere between a 20% and 40% chance of winning in November. It is all but impossible to imagine a scenario in which Trump triumphs and the Senate falls into Democratic hands. Thus a Trump victory puts all of Washington into GOP hands. That translates to 20 to 40 percent chance of HUGE stimulus.

If Clinton wins, she is not guaranteed a situation that will allow her to enact legislation. But Republicans hold 24 of the 36 Senate seats up for reelection this coming November. Handicappers, at the moment suggest that the Senate looks like a toss-up, while the House is a long shot for the Democrats. But conditional on Hillary taking the White House, there are good odds on the Democrats taking the Senate and making significant gains in the House.

To us, this suggests that there are very strong odds that either Donald or Hillary will be in a position to deliver big fiscal stimulus of one kind or another. Clinton’s plans couple infrastructure spending with tax increases on the wealthy. Of course, a classic political route to Keynesian stimulus is to spend the money but skip the tax increases. But even if the tax increases happen, the net will be fiscal stimulus, so long as those paying the higher taxes have a low marginal propensity to consume.[3]

Overall then, the big economic trend is to fiscal stimulus. While our expertise runs more toward macroeconomics than politics, it is hard not to think that this shift toward fiscal stimulus is a consequence of difficult economic times for those of middle and lower incomes leading to political upheaval as reflected in Brexit and Trump, and then leading (perhaps surprisingly) back to a classic approach to jump starting economies. We’ll be discussing what this may mean for monetary policy in future posts.


1. As we published, we noted that Michael Mackenzie in the FT is also arguing that stimulus is in. [back]

2. Larry Summers, a key player in the Bill Clinton and Obama administrations has offered much commentary in the past few years arguing that only fiscal stimulus can lift the world out of its pallor. [back]

3. That, in turn, is highly likely, as any tax increases would be targeted to the best off. [back]

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July 18, 2016

Why has transparency been so damn confusing? By Jon Faust

The theme of our recent series of posts on understanding FOMC actions and communications has been the well-disguised, steady predictability of FOMC policy. The basic story is that policy is driven by a consensus on the FOMC. The consensus tends to evolve slowly and predictably, and for some time now, the consensus has behaved consistently as if driven by two principles:

So long as steady job market gains persist, continue a gradual, pre-announced removal of accommodation.

So long as inflation remains below target, take a tactical pause if credible evidence arises that the job gains might soon falter.

The factual record, I argued, is unambiguous: over the last three years, we’ve gotten normalization at a preannounced pace as in to the first principle, punctuated only by brief (so far) tactical pauses as under the second.[1]

But the fact that my low-drama story lines up with the facts doesn’t make it correct. And my story directly contradicts the popular narrative of a skittish, market-obsessed Fed flip-flopping at every opportunity. This is where the well-disguised part comes in.

Before continuing, however, I want to emphasize that I came to the views I’m describing during my years working on transparency and communications on behalf of the chairs Bernanke and Yellen—a job that ended about 2 years ago now. Yes, I did my small part in making the mess. But the FOMC members and Fed staffers like me also worked pretty hard to understand what was going wrong and attempting to improve the situation. This series of posts is essentially the lessons I took from these efforts. It would be inappropriate for me to say who among my former colleagues subscribes to these views, but I similarly don’t want to claim the ideas as my own. For now,[2] I’ll be deliberately and appropriately vague in saying that all the points I’m making were in the air at the Fed while I was there. In this post, I’ll sketch the basics, leaving details and support for subsequent posts.

The sketch goes like this. The 19 policymakers on the FOMC have, since the crisis held widely divergent views about policy.[3] Under the leadership of the Chair, these views somehow blend in a reasonably coherent compromise policy. That compromise by its very nature is fully embraced by no one. The vast bulk of FOMC communication (as a matter of policy) stresses the 19 views to the exclusion of the consensus. Individual FOMC members are often endlessly transparent about the various issues that are, at present, causing them to prefer something other than the actual policy. The chosen policy often appears to be an orphan, at best, and can become a whipping boy.

But the consensus policy is generally much simpler to understand than those 19 component views. For example, if the broad characterization of principal facts about the dual mandate evolve only slowly—as they have for the last few years—then the net effect on policy of all the grappling and speechifying is minimal.

Following FOMC communications in detail is like watching classical Greek tragedy: observing the drama unfold may be great entertainment, but this doesn’t change the fact that the outcome is inevitable.

You might think that folks on the outside would have figured this out—and this series of posts is intended to help in that regard. But there is a strong pull toward that ‘skittish, market-obsessed Fed’ narrative. And this narrative is very plausible. You can almost inevitably find some significant wiggle in financial market data to support any market obsession story. This provides a good starting point for persistent misconceptions. And with FOMC members making 19 different cases, you can also generally find support for your particular story in some FOMC communication.

Aside: this is why I asked you to read an earlier post as if you only knew of the FOMC statement and press conference: these are the principal places where the communication is unambiguously directed at explaining the consensus. As I’ll argue in greater detail for those who stick around for the more complete argument, communications other than these systematically obscure and confuse much more than they clarify.

So that’s the basic sketch. Let me summarize.

Over the last 3 years, the general picture regarding the Fed’s dual mandate has been remarkably constant. As a result, policy has evolved very predictably in line with communications on behalf of the consensus. The skittish, market-obsessed, and flip flopping Fed story fits the facts quite well also, and support for this story can often be stitched together out of structurally flawed Fed communications. In principle, outsiders could see through this. But many market participants cling tightly to the idea that the Fed is market obsessed, reflexively rejecting what is, in fact, a simpler story that fits the data at least as well.[4] As for the media, it is unfortunate, but perhaps not surprising, that the Greek drama is enthusiastically covered to the near complete exclusion of steady, predictable outcome.

I hope this barebones sketch is sufficiently intriguing that some readers will stick around for the supporting posts.


1. I won’t repeat the full argument here, but one example is Bernanke’s June 2012 statement that the taper would (if the jobs market progress continued) start later that year and end around mid-year 2013. The taper started in December and purchases were trivial by mid-year, ending in October. The slight delay relative to the baseline calendar was due to a brief tactical pause when the jobs data briefly appeared to falter. [back]

2. Most of the relevant material will become public along with the FOMC transcripts 5 years after the fact. [back]

3. This “19” should, in these posts, be read as “however many of the full complement of 19 members are in place at any given time.” Of course, for many years, at least 2 governor slots have been empty. [back]

4. As I’ll argue more fully in coming posts, a main difference in the way the high-drama and low-drama stories account for the facts we’ve observed is that in the low-drama story it is no accident that ex post the Fed has delivered a policy consistent with what was laid out in advance. In the high drama story, the fact that policy evolved pretty much as stated on behalf of the consensus, I suppose, is just how the flip flops happened to net out. [back]

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July 18, 2016

A series on ‘Understanding FOMC actions and communications’ (Hint: two separate topics) By Jon Faust

This post provides links to a series of related posts arranged earliest to most recent. The list will be updated as posts appear.

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June 26, 2016

What will the Fed do? (June 2016, update!) By Jon Faust

My previous post described the well-disguised, steady predictability of recent FOMC policy. All that’s out the window now. (No.) Brexit changes everything! (We’ll see.) Will the Fed’s intermeeting rate cut go negative? (Get ahold of yourself.)

But Brexit is putting a wrinkle in this blog: I had promised that the next post would be entitled ‘Why has transparency been so damn confusing?’ Instead I’ll interrupt that plan with a brief account of what the steady-predictability story means post-Brexit. Indeed, Brexit provides a dramatic example of why focusing on the evolution of the Fed’s consensus can be so useful. (more…)

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