Don´t do the markets work

Jeremy Stein “whispers” his farewell:

Mr. Stein has been a cautious supporter of the Fed’s campaign, convinced of its necessity but concerned about its potential consequences. He warned last year that the Fed’s effort to drive down interest rates was encouraging excessive speculation in some markets. Earlier this year, he warned that ending the campaign could produce even larger disruptions as investors abruptly reversed their bets.

His remarks Tuesday focused on a different kind of unintended consequence: the possibility that the Fed, in trying to calm markets, might achieve the opposite.

Mr. Stein began with the more conventional point that “there are very real limits to what even the most careful and deliberate communications strategy can do to temper market volatility.” If a few people misunderstand the Fed’s message, or find it surprising, there can be broad consequences, as happened last summer.

Then he went further, suggesting that the pursuit of clarity could be a cause of volatility. The Fed has sought to announce its plans carefully and to implement those plans slowly, as in its regular reductions of monthly bond purchases.

Mr. Stein said that this kind of close management of expectations led investors to hang on the Fed’s words. “There is always a temptation for the central bank to speak in a whisper, because anything that gets said reverberates so loudly in markets,” he said. “But the softer it talks, the more the market leans in to hear and, thus, the more the whisper gets amplified. So efforts to overly manage the market volatility associated with our communications may ultimately be self-defeating.”

How I miss Greenspan´s quip:

“I guess I should warn you, if I turn out to be particularly clear, you’ve probably misunderstood what I’ve said.”

That meant market participants had to work and think harder. This is as it should be.


One thought on “Don´t do the markets work

  1. Mr Stein seems determined to not only have two hands (“on the other hand”) but to speak unclearly from both sides of his mouth.

    I tend to to think forward guidance is not that important (yes, fellow MM’ers, shoot me) but that actual and aggressive QE is. I believe in sensible and clear forward guidance as I believe in democracy, and government agencies should be transparent (and FOMC board meetings should be on CSPAN or webcast).

    I still fall back on it: If the central bank buys $100 billion a month in US Treasuries we will see a result. It will be stimulative. At some point it might be inflationary. I would love to get to that point.

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