Fed leaders – past and present – have chosen today to be awfully talkative. And they haven’t at all times been in agreement with each other, either. So here are the highlights of today’s Fed speak.
Alan Greenspan, Former Fed chief, on the Bubble
Alan Greenspan, in an interview with Bloomberg TV, disagreed with SF Fed president Janet Yellen’s assessment that an increase in interest rates could have mitigated the growth of the housing bubble. He argued, as he has before, that a decrease in long term interest rates around the world led to the boom. Short-term interest rates were irrelevant.
Ok – so long-term interest rates are responsible for the bubble. We sure don’t want to encourage a housing bubble based on that again. Right?
Maybe not.
Citing concerns of the size of the US deficit, Mr Greenspan argued that an increase in long-term interest rates “would make a housing recovery very difficult to implement.”
Wait. There’s no recovery from a popped bubble, only a return to sustainable prices. So is the goal for the government to “implement” another bubble?
In any case, Treasury yields and other economic indicators, led Mr Greenspan to say that while the short term economic outlook was bright, the long term outlook was worrisome.
Which brings us to….
James Bullard, St. Louis Fed President, on economists’ ability to forecast
“We try to understand the quarters immediately past, the current quarter, and the coming quarter,” Mr Bullard said, as he argued for greater national resources for macroeconomic modeling. “Beyond that, many forecasts are a near random walk, with only slow reversion to mean.”
Take that, Mr. Greenspan’s long term outlook!
And Mr Bullard didn’t even think greater modeling resources would necessarily improve forecasting, rather, he thought they would be useful to improve policy decisions.
But if forecasting’s iffy, then it might make sense to become an econmitment-phobe, like…
Charles Plosser, Philadelphia Fed President, on “extended period” language and MBS sales
Mr Plosser told the Wall Street Journal that it may be time to ditch the “extended period” language, which is interpreted to committing the Fed to keeping interest rates at near zero levels for at least six months.
“I’m kind of ready to move on the language. That doesn’t mean I’m ready to move on rates yet,” Mr Plosser said, according to the Journal.
He also wasn’t ready to commit to keeping MBS on the Fed’s books for their, in some cases, 30-year maturities. He wasn’t even necessarily willing to wait until the Fed raised rates to start getting rid of some of them, telling the Journal that MBS sales prior to an interest rate hike could make monetary policy more effective.
An alternative to econmitment-phobia – or perhaps a corollary – is expecting the worst out of the economy, or, as I like to call it, ecynicism. Which was highlighted in a speech by…
Daniel K. Tarullo, Fed governor, on testing to the tail
In the post-crisis world, the talk has turned to the tail – the part of a probability curve that isn’t likely, but represents really bad outcomes (or, if you’re lucky, really good ones. But that’s a topic for another day.)
Mr Tarullo, in a speech today on the bank stress tests conducted last year, talks about developing the assumptions for the adverse scenarios – the situation banks would find themselves in if the economy took a turn for the worse.
“Adverse” but not “worst case”. Tarullo said today that economic conditions were always meant to have about a 10 per cent to 15 per cent chance of becoming worse that the assumptions used. Until now, it’s never been clear how far down the tail the tests were meant to go.
By two measures, the recession proved worst than the assumptions. Last year, declines in employment and GDP surpassed the stress tests ‘adverse’ scenarios, though housing price declines didn’t exceed the assumed levels.
Happily the stress tests seem to be working out anyway.
Many observers initially criticized the stress tests as overly optimistic…As of the end of 2009, actual losses at the 19 banks were less than one-half of the two-year loss estimates under the more adverse SCAP scenario, and actual revenues were more than one-half of the two-year revenue estimates. Nevertheless, there is wide variation across the firms, and it is too soon to tell whether firms will perform better over the full two years than the SCAP estimates.”
We shall see. In the meantime, I leave you with:
Kevin Warsh, Fed governor, with an ode to central bank independence
The Fed’s greatest asset is its institutional credibility. This institutional credibility is rooted in its inflation-fighting credibility, but it is broader still.2 It is tied up in the full range of Fed actions and balance sheet commitments. This credibility is essential. It increases the heft of our communications. It gives weight to our economic assessments. It amplifies the effect of announced changes in the short-term policy rate on longer-term rates. It is, in some sense, the real money multiplier in the conduct of policy.
Given its immense value, we should not forget that the Federal Reserve’s hard-earned credibility is no birthright. It is as much nurture as nature. It was earned by our predecessors in the conduct of their duties, making considered judgments consistent with the statutory mandate of price stability and maximum employment. Fortunately, for the asset to be burnished and bestowed upon the current crop of central bankers, it did not demand perfect clairvoyance or infallible judgments. But it did require fierce independence from the whims of Washington and the wants of Wall Street, and from a pernicious short-termism that can undermine the proper conduct of policy. This fierce independence is needed, perhaps now more than ever.
Central bank independence is precious. It can be taken for granted in benign times, but it is tested when times get tough. And we still have tough times ahead of us. My colleagues and I must demonstrate that Fed independence has not been relegated, and the Fed’s long-term objectives not compromised. Ensuring Fed independence–as the cornerstone of institutional credibility–is our charge to keep. It is central to what the Federal Reserve represents, and to how policy is conducted.
