Sunday, January 03, 2010
The Chairman’s Defense
In late 2008, John Taylor of Stanford U. wrote a blistering attack on Federal Reserve monetary policy, attributing the housing bubble to our friends at the Fed. (Available here and worth reading.) Taylor’s argument is, in short, that the Fed foolishly departed from the "Taylor rule" for setting interest rates, keeping rates too low for too long thus generating the housing bubble. A simulation run by Taylor using a counterfactual Taylor rule rate did not exhibit a housing bubble.
Ben Bernanke’s presentation today was his rebuttal. In a nontechnical nutshell, Bernanke first disputed the way Taylor showed a divergence from the Taylor rule. Using what Bernanke considers better measures of price inflation, and FOMC forecast values of key variables as opposed to current values, he was able to show that Fed policy was not looser than what the Taylor rule would have called for. Second, he provided a variety of "empirical data" that suggest that interest rates have little effect on housing prices, and that foreign capital inflows do - supporting the global savings glut hypothesis.
My reaction is threefold: (i) Bernanke has a strong argument that the Fed did not diverge substantially from the Taylor rule. OTOH, the defense that interest rates weren’t held too low too long because we can come up with a different metric that generates a Taylor rule sounds a little like Robert Anton Wilson’s "Law of Fives:" any phenomenon in the world can be shown to be intimately related to the number five, given enough ingenuity on the part of the observer. I look forward to Taylor’s rebuttal. (ii) I’m unconvinced monetary policy Bernanke’s argument against an important role for monetary policy in the boom was entirely unconvincing. His VAR results suggested only a small role for low interest rates in generating the boom in housing prices. Yes, probably right – just like a match has only a small role in an arson fire. (iii) If you take on the head of the Fed chairman, keep in that he has an army of some of the best technical economists in the world at his beck and call to help him shoot back.
If history is any indicator, there’ll be a seemingly endless stream of increasingly complex statistical analyses of these issues, written from opposing viewpoints, which will generate interesting new econometric tools and precisely no new understanding of anything economic.
It bears emphasis that this presentation concerned an academic debate concerning one particular historical event, one in which Bernanke has been criticized. It was not over current policy or future events.
I sat with Mark Skousen, and he asked the chairman what will be the likely consequences of a greatly expanded money supply, and whether or not the big purchases of gold by India and China are harbingers of anything for the dollar.
Any guesses as to how the not-yet-reconfirmed chairman responded?
Ben Bernanke’s presentation today was his rebuttal. In a nontechnical nutshell, Bernanke first disputed the way Taylor showed a divergence from the Taylor rule. Using what Bernanke considers better measures of price inflation, and FOMC forecast values of key variables as opposed to current values, he was able to show that Fed policy was not looser than what the Taylor rule would have called for. Second, he provided a variety of "empirical data" that suggest that interest rates have little effect on housing prices, and that foreign capital inflows do - supporting the global savings glut hypothesis.
My reaction is threefold: (i) Bernanke has a strong argument that the Fed did not diverge substantially from the Taylor rule. OTOH, the defense that interest rates weren’t held too low too long because we can come up with a different metric that generates a Taylor rule sounds a little like Robert Anton Wilson’s "Law of Fives:" any phenomenon in the world can be shown to be intimately related to the number five, given enough ingenuity on the part of the observer. I look forward to Taylor’s rebuttal. (ii) I’m unconvinced monetary policy Bernanke’s argument against an important role for monetary policy in the boom was entirely unconvincing. His VAR results suggested only a small role for low interest rates in generating the boom in housing prices. Yes, probably right – just like a match has only a small role in an arson fire. (iii) If you take on the head of the Fed chairman, keep in that he has an army of some of the best technical economists in the world at his beck and call to help him shoot back.
If history is any indicator, there’ll be a seemingly endless stream of increasingly complex statistical analyses of these issues, written from opposing viewpoints, which will generate interesting new econometric tools and precisely no new understanding of anything economic.
It bears emphasis that this presentation concerned an academic debate concerning one particular historical event, one in which Bernanke has been criticized. It was not over current policy or future events.
I sat with Mark Skousen, and he asked the chairman what will be the likely consequences of a greatly expanded money supply, and whether or not the big purchases of gold by India and China are harbingers of anything for the dollar.
Any guesses as to how the not-yet-reconfirmed chairman responded?
