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Analysis of Janet Yellen’s FOMC Q&A
TND Guest Contributor: Paul-Martin Foss |
As much as the Fed likes to think that its monetary policy statements make it transparent, those statements really don’t say too much. It’s really the press conference question and answer session in which we can gain some insights into what Chairman Yellen and her fellow FOMC members are thinking. Thankfully, Chairman Yellen’s answers are not nearly as inscrutable as those of her predecessors, Alan Greenspan and Ben Bernanke. And while last week’s FOMC press conference wasn’t groundbreaking, there are a few issues Chairman Yellen commented on which deserve some comment.
I think some of the headwinds that have long been holding the economy back are beginning to recede which is a reason that the Committee wants to be able to evaluate incoming data and consider when it may be appropriate to finally raise rates.
What exactly does Chairman Yellen mean by headwinds? The only headwinds that exist are those put in place by the Federal Reserve. The Fed’s quantitative easing was intended to keep housing prices elevated and boost asset prices. In that sense it has been a “success”, as housing prices remain elevated and the prices of food and other staple goods continue to rise. But by keeping asset prices high QE has delayed economic recovery. In order to recover from the financial crisis, asset prices needed to fall so that misallocated resources could be put to better use elsewhere in the economy. If housing prices had been allowed to fall, resources that are now continuing to be misdirected towards the housing sector would instead have been put to more productive use in other sectors. By blunting the collapse of the housing bubble the Fed may have minimized some of the immediate short-term damage done by the financial crisis, but at the expense of creating an even large bubble in the economy that will collapse at some point in the near future.
And because the Fed has kept interest rates so low for so long, businesses are reluctant to invest in any medium- to long-term projects because they know that interest rates will eventually rise. The entire economy is in a holding pattern, waiting with bated breath for the Fed’s next move. Every six weeks markets begin to get jittery as they digest the Fed’s latest actions. Until the Fed returns to more “normal” behavior in its monetary policy, don’t expect businesses to return to normal behavior either. Combine the regime uncertainty with regard to the Fed’s actions with all the additional regulation being piled on by other federal agencies and you have a recipe for economic stagnation.
So in terms of certainty and providing metrics, we provided a metric or a threshold of 6.5% several years ago and told market participants and the public that we wouldn’t consider it appropriate to raise rates as long as the unemployment rate was higher than that level as long as inflation was well-contained. But our policy needs to be data-dependent. And we need to respond to incoming data and our assessment of incoming data in terms of where we think the economy is heading and how close we are to our objectives.
This emphasis on data-dependence is dangerous for two reasons. First, there is no amount of data that the Fed could receive that would give it the ability to centrally plan the correct interest rate. The economy consists of hundreds of millions of individuals each making their own decisions, changing day by day. To expect a central entity consisting of twelve individuals to be able to set one single benchmark price of credit, buy and sell assets on the open market to hit that target rate, and expect not to have any economic disallocation as a result is mind-boggling.
Secondly, because the Fed has now trumpeted its “data-dependence”, markets will now begin to scrutinize not just Chairman Yellen’s words, but also any economic data that is released. For instance, if the unemployment rate drops but labor force participation falls along with it, or if first quarter GDP comes in slightly under or over projections, markets will react to those numbers based on how they think the Fed will react, attempting to beat the Fed to the punch. And of course, knowing what numbers the Fed is looking at to make its decisions could also lead to pressure being placed on those compiling the numbers to fudge the data so as to ensure that the Fed reacts they way they want them to.
With respect to Congressional changes that are under consideration that would politicize monetary — politicize monetary policy by bringing Congress in to make policy judgments about in real-time on our monetary policy decisions, Congress itself decided in 1978 that that was a bad thing to do, that it would lead to poor economic performance. And they carved out this one area of policy reviews, of monetary policy decision making, from GAO audits, the GAO looks at everything else that goes on within the Fed.
Having been on the inside when audit negotiations were going on during Dodd-Frank, I don’t believe that it was Congress that decided that exempting Federal Reserve monetary policy operations from GAO scrutiny was a good thing. GAO itself testified on numerous occasionsthat exempting monetary policy operations from GAO audits made it impossible to adequately audit the Federal Reserve System. The earliest legislation in the 1970s that sought to audit the Federal Reserve System made no exceptions for monetary policy or agreements with foreign central banks. If I had to guess, I would say that the language enacted in 31 U.S.C. 714(b) that exempts monetary policy from audits was drafted by the Fed itself and given to Congress to pass.
With respect to proposals having to do with voting and the structure of the Fed that you mentioned, a lot of ideas have been mentioned. I would say for my part, I think the Federal Reserve works well. The system we have was put into place by Congress decades ago. I don’t think it’s a system that’s broken. Of course Congress can revisit the decisions it’s made about the structure of the Fed. There were good reasons for making the decisions that were made about how to structure voting and other things. But — and I don’t think the system is broken. I think it’s working well. So I don’t see a need for changes. But of course, it’s up to Congress to review that.
Of course Chairman Yellen is going to say that the current system works well. She doesn’t want to rock the boat, this is the system she knows and is familiar with, so why change something that works to her advantage? And yes, of course she’ll publicly state that Congress can review the Fed’s structure, while she and her lobbyists work feverishly behind the scenes to maintain the status quo.
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About Paul-Martin Foss:
Paul-Martin Foss is the founder, President, and Executive Director of the Carl Menger Center for the Study of Money and Banking, an Arlington, VA-based think tank dedicated to educating the American people on the importance of sound money and sound banking.
Prior to founding the Menger Center, Mr. Foss worked in the U.S. House of Representatives for seven years, including six years as Congressman Ron Paul’s legislative assistant for monetary policy and financial services, and one year as Deputy Legislative Director for Congressman Thomas Massie.
As Congressman Paul’s legislative assistant, he assisted the Congressman in his duties as Chairman of the Subcommittee on Domestic Monetary Policy by helping to develop hearing topics, agendas, and briefing Congressmen and their staffs on monetary policy topics. Mr. Foss also was responsible for the management of Dr. Paul’s monetary policy and financial services legislation, including the “Audit the Fed” and “End the Fed” bills, and was co-editor of Ron Paul’s Monetary Policy Anthology, a multi-thousand page compilation of hearing transcripts, lecture transcripts, and other documents related to Dr. Paul’s chairmanship.
Mr. Foss received his Bachelor’s degree from The University of the South (Sewanee), and Master’s degrees from the London School of Economics and Georgetown University’s Edmund A. Walsh School of Foreign Service.
This article appeared on the Carl Menger Center for the Study of Money and Banking and is reprinted with permission, “Creative Commons 4.0.”
Source: http://thenewsdoctors.com/analysis-of-janet-yellens-fomc-qa/
