Matt O´Brien ‘nails it’

In The Atlantic Matt writes: “The 2% Mystery: Why Has QE3 Been Such a Bust”?

The best way to figure out what the Fed wants is to listen. After all, it tells us what it thinks will happen with GDP, unemployment, and inflation over 1, 2, and 3-year periods. Now, it’s GDP and unemployment predictions have been, in the spirit of generosity, a tad optimistic, but not so for inflation (which, not-so-coincidentally, is the only above variable the Fed controls directly). The chart below looks at the Fed’s core PCE inflation projections since late 2008; upper-range estimates for 1, 2, and 3-year periods are in red, and lower ranges ones are in blue. This is what a 2 percent inflation ceiling looks like.

Matt O´Brien

There’s a lot going on here, but there’s a depressingly simple message in this chart: QE3 isn’t working, because the Fed doesn’t want it to work.

Exactly one year ago I wrote “Obsessions are a formidable barrier to economic progress”:

In the second half of the 1980s, 1990s and first half of the 2000s, inflation AND unemployment remained contained. In my interpretation this favorable combination came about because the Fed in fact stabilized nominal spending along a trend path. Then Bernanke took over and brought with him the “obsession” with inflation. The outcome was the “Great Recession” (“Lesser Depression” or “Second Great Contraction”). Four years on we are still a long way from escaping this predicament because, just as in the 1970s, the “obsession” that “caused” the “GR” is alive and well.

One year has passed. QE3 has come along later supplemented by the Evans-Bernanke (threshold) rule, and the prospects have remained bleak. And the reason for that is the 2% obsession!

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4 thoughts on “Matt O´Brien ‘nails it’

  1. “…And the reason for that is the 2% obsession!”

    Sounds like a call for inflation

    I don’t usually think of the NGDP LT focus as a call for inflation, but maybe it is? Just, more nuanced than a direct call for raising the inflation target.

    • Art, it isn´t. Actually we don´t even like to mention the I word! But there´s always the chance that an effort to increase spending would lift inflation temporarilly, and that´s what gives modern, inflation-target-obsessed central bankers the jitters.

    • This is where “inflation-targeting” CB’s get into a lot of trouble. Politically they can’t set a long run target and make up the undershooting. Thus the price stability mandate goes out the window every time there’s a supply shock of some kind and the target acts more like a ceiling rather than guide to nominal stability. It’s a terrible proposition that almost guarantees that money will be too tight most of the time.

  2. i realize serious economists go with the PCE deflator…but for conversations’ sake. please note that seven of the last nine CPI readings in the USA have been down or flat.

    So, we are still climbing out of the worst recession since the Great Depression, and the Fed, as of now, has engineered…deflation.

    And still FOMC “hawks” are sniveling about asset bubbles and the dangers of inflation.

    And people wonder why I sometimes question whether the Fed should be “independent.” !!!

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