Even if it could identify bubbles, monetary policy is far too blunt a tool for effective use against them.
–Ben Bernanke, October 15, 2002
Policy accommodation—and the expectation that it will persist—is distorting asset prices. Most of this distortion is deliberate and a desirable effect of the stance of policy. We have attempted to lower interest rates below long-term equilibrium rates and to boost asset prices in order to stimulate demand.
–Donald Kohn, March 16, 2004
Kohn’s belief that monetary policy can reinvigorate a weak economy by encouraging people to borrow and spend out of unrealised capital gains is hard to square with Bernanke’s claim that central bankers shouldn’t attempt to restrain excessive risk-taking by raising interest rates. Bernanke reconciles this apparent asymmetry by arguing that “targeted measures…such as financial regulation and supervision” can promote financial stability better than the “blunt” instrument of monetary policy. Read more
Ask most monetary policymakers how they think about their job and the conversation generally goes like this:
- There is “an equilibrium interest rate” that somehow balances out the desires of savers and borrowers
- This “equilibrium rate” can be estimated roughly in real time
- The role of the central bank is to ensure that actual interest rates align with this theoretical ideal
We don’t really buy any of these points, especially 2) — see our earlier post discussing research by BAML’s Ethan Harris and Goldman’s Jan Hatzius, among others, on the difficulty of determining the “equilibrium” rate at any point in time — so naturally we want to highlight some new papers that reinforce our monetary policy nihilism. Read more
When it comes to central banking, we tend towards nihilism: the economy is far too complex for any policy rule, but also too complex to be understood by even the most intelligent, well-meaning technocrats. That presents an insurmountable problem for monetary policymakers, who are forever doomed to be fumbling about in the dark rather than smoothing out the vicissitudes of the cycle.
So we were intrigued to read a new paper by, among others, Goldman’s Jan Hatzius and BAML’s Ethan Harris, which was presented on Friday at the Chicago Booth Monetary Policy Forum, that basically agrees with our view. Read more
Eric Rosengren, the President of the Federal Reserve Bank of Boston, gave a speech in Frankfurt on Thursday arguing that the Fed’s full employment mandate gave the central bank more flexibility to be aggressive earlier, and that open-ended programmes that are tied to economic targets are more effective than purchases of predetermined size and duration.
Nothing novel there. But his speech also contained, perhaps inadvertently, some interesting arguments that the rounds of bond-buying after the acute phase of the financial crisis did little for the real economy. (We covered the tenuous relationship between asset purchase programmes and inflation here.) Read more
Housing booms are wasteful — and the subsequent busts are deeply destructive. Worse, they have become bigger and more frequent since the 1970s. An important new paper from Oscar Jorda, Moritz Schularick, and Alan Taylor places the blame on structural changes in the financial sector that exacerbate the impact of excessively loose monetary policy.
This is a continuation of earlier research on the drivers of credit booms and their impact on GDP using data from more than a dozen rich countries going back to 1870, which we covered in detail here. For those who don’t want to reread that post, the two important takeaways are, first, that the growth rate in private borrowing during an economic expansion predicts the severity of the subsequent downturn even when there is no financial crisis: Read more
**10.5 per cent to 17 per cent**
Click to enlarge for the Central Bank of Russia’s emergency rate hike at 1am Moscow time — surpassing both the Turkish central bank’s hike in January this year and the Bank of England’s 500bps of moves on one day in 1992. Lamontsky.* Read more
CreditSights points out today that changes in gross ECB liquidity provided to the euro area’s banking sector closely track changes in 10 year Bund yields:
A fascinating chart from Morgan Stanley’s European banking research team caught our eye. See if you can spot the odd one out (click to enlarge):
Back in 2011, inflation climbed above the Fed’s 2 per cent target, but the FOMC resisted the impulse to tighten monetary conditions. Long-run inflation expectations hadn’t risen to worrying levels, and Ben Bernanke perceived that a price spike led by oil was likely to be “transitory”.
No surprise there: he wrote the paper on this very topic. And he was proved right. Read more
The Bank of England’s latest quarterly bulletin, released on Monday, contains an interesting article on “the potential impact of higher interest rates on the household sector.”
A few interesting tidbits:
–Raising rates by 2 percentage points would redistribute income “from higher-income to lower-income households”
–But would probably lead to a reduction in spending, since 60 per cent of borrowers would spend less and only 10 per cent of savers would spend more. The BoE estimates that the net effect of a 1 percentage point increase in the Bank Rate would be a reduction “aggregate spending by around 0.5 per cent via a redistribution of income from borrowers to savers.” A 2 percentage point increase would lower spending by 1 per cent. (The total impact on spending could be a bit different, however, since monetary policy works in other ways besides redistributing income from net savers to net borrowers.)
–On the whole, though, UK households are (slightly) less sensitive to increases in interest rates than they were a few years ago Read more
Back in April, Paul Krugman wrote that Swedish post-crisis central banking has been “sadomonetarism in action.” (They had the audacity to modestly raise short-term interest rates in 2010-2011.) The criticism may lead to additional parliamentary oversight of the Riksbank.
So we recommend you read an important new speech from deputy governor Per Jansson that dispels many of the myths surrounding Swedish monetary policy. He makes two basic arguments: Read more