I have a dream

I have a dream. In that dream I see the Chairman of the Federal Reserve Board, surrounded by the rest of the voting members of the FOMC, all wearing dunce caps except for Bill Poole.  The Chairman reads out the following prepared statement:

"Oops! We goofed last week. Clearly, being alone in the office on an official holiday is not conducive to producing the right mind set for rational decision making.  Also, that man Noyer at the Banque de France failed to inform us on Monday that SocSec was unloading the massive long equity position built up by that other perfidious Frenchman, Kerviel.

We now have had time to sleep on it.  It is obvious that we overreacted.  The economy is slowing down but not collapsing. The 75 basis points cut does more damage through the up-side risk to inflation it creates than it does good by reducing the risk of a prolonged, deep recession.  "Risk management" therefore requires that we minimize the risk of getting stuck with persistently higher underlying inflation.  Consequently we have decided to raise the target for the Federal Funds rate by 50 basis points with immediate effect.  We have also decided to raise the primary discount rate by 100 basis points, to restore the normal 100 basis points penalty associated with discount window borrowing, although we will apply a wider definition of eligible collateral.

We all make mistakes.  Better to recognise them and correct them immediately, than to sit tight and hope a low-probability scenario with low inflationary pressure and a collapsing real economy materialises that will appear to justify ex-post a decision that clearly made no sense ex-ante.

During future official holidays, the Fed will be closed, except for security personnel and guard dogs."

Then I wake up.

Maverecon: Willem Buiter

Willem Buiter's blog ran until December 2009. This blog is no longer active but it remains open as an archive.

Professor of European Political Economy, London School of Economics and Political Science; former chief economist of the EBRD, former external member of the MPC; adviser to international organisations, governments, central banks and private financial institutions.

Willem Buiter's website