The FF target rate is just a placebo, but it can be toxic if too much is ingested at a low level of stamina

From Yellen´s most recent speech, it is clear that these “doctors” are not worth their pay. They are only concerned with prescribing a placebo (FFT)! Maybe it´s harder to provide nominal stability at an appropriate level (“dose”). And we know that “prescription” is good because it has done wonders for the patient in the past!


But Yellen expressed confidence that the recovery remains intact — even if it is not as robust as Fed officials themselves once thought. And that would be enough for the Fed to begin reversing nearly a decade of easy money.

Because of the substantial lags in the effects of monetary policy on the economy, we must make policy in a forward-looking manner,” Yellen said in prepared remarks. “Delaying action to tighten monetary policy until employment and inflation are already back to our objectives would risk overheating the economy.

From the charts below, it appears that if they want to play around varying the “dosage” of placebo as they were used to, they first have to get the “patient level of stamina UP”!


The “Wishin´& Hopin´” Fed

Or is it the “Expecting & Anticipating” Fed? Given the time span (7 years) of “Expecting & Anticipating”, those words have become meaningless, so the timeliness of “Wishin’ & Hopin’” is more appropriate.

And it´s “W&H” for inflation! An account.

In the early months after the crash, the FOMC was still very much focused on headline inflation. That was certainly one of the reasons monetary policy was so tight going into the “Great Recession”:

In light of the declines in the prices of energy and other commodities and the weaker prospects for economic activity, the Committee expects inflation to moderate in coming quarters to levels consistent with price stability.(Oct 08).

In later occasions the FOMC doesn´t mention energy and commodity prices explicitly (maybe because they crashed):

With substantial resource slack likely to continue to dampen cost pressures and with longer-term inflation expectations stable, the Committee expects that inflation will remain subdued for some time. (Nov 09)

Currently, the unemployment rate is elevated, and measures of underlying inflation are somewhat low, relative to levels that the Committee judges to be consistent, over the longer run, with its dual mandate. Although the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability, progress toward its objectives has been disappointingly slow. (Dec 10)

Fantastic! They anticipated inflation would remain excessively low:

The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee’s dual mandate. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations. (Dec 11)

The Committee also anticipates that inflation over the medium term likely will run at or below its 2 percent objective. (Dec 12)

The Committee also anticipates that inflation over the medium term likely will run at or below its 2 percent objective. (Apr/May 13)

Suddenly they acknowledge that “too low” inflation could pose risks. But instead of doing something about that they start “anticipating” that it will move back up in the medium term (are they evoking the “Holy Ghost”?):

The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, but it anticipates that inflation will move back toward its objective over the medium term. (July 13)

In a November 2013 speech, Bernanke drops the risk part and only continues to “expected” that inflation will somehow rise:

The Committee additionally expected that inflation would be moving back toward its 2 percent objective over time. (Speech Nov 13)

This old chart illustrates that they have for a long time “expected” and “anticipated” wrong.

Wishin´& Hoping´_1

Since then expectations and anticipations have not markedly improved!

The Minutes of the December 2014 FOMC meeting is “fun” to read:

Participants generally anticipated that inflation was likely to decline further in the near term, reflecting the reduction in oil prices and the effects of the rise in the foreign exchange value of the dollar on import prices. Most participants saw these influences as temporary and thus continued to expect inflation to move back gradually to the Committee’s 2 percent longer-run objective as the labor market improved further in an environment of well-anchored inflation expectations.

With regard to inflation, a number of participants saw a risk that it could run persistently below their 2 percent objective, with some expressing concern that such an outcome could undermine the credibility of the Committee’s commitment to that objective.

With lower energy prices and the stronger dollar likely to keep inflation below target for some time, it was noted that the Committee might begin normalization at a time when core inflation was near current levels, although in that circumstance participants would want to be reasonably confident that inflation will move back toward 2 percent over time.

After battling inflation for almost three decades, FOMC members are now in the position of having to “pray” for more inflation! Call in the shrinks!

Interestingly, now they say that the fall in oil prices will have only temporary effects. In 2008 they thought that the rise in oil prices required “tightening”!

Even more interesting is the fact that as soon as the US became an official inflation targeter in January 2012, inflation dropped significantly below target and has remained there for the last three years!

And that´s no “fault” of oil prices, which remained pretty stable (approx. $100) between mid-2011 and mid-2014.

What could possibly give FOMC members’ confidence to establish the time for the first rate hike?

“Praying” won´t cut it. They have to do something that would get aggregate nominal spending up. But that´s not likely to happen and so there will be no “confidence that inflation will travel towards the target” and, therefore, the “rate rising date” will keep being postponed!

In April 2015 they were still “keeping the faith”!

Participants generally anticipated that inflation would rise gradually toward the Committee’s 2 percent objective as the labor market improved further and the transitory effects of declines in energy prices and non-energy import prices dissipate

The chart updates the previous one.

Wishin´& Hoping´_2

And the next chart indicates the behavior of one (Cleveland Fed) estimate of long-term inflation expectations since the crisis took hold

Wishin´& Hoping´_3

Title song

Jim Paulsen Of Well Capital Management Becomes Defeatist

A Benjamin Cole post

The supply side of the United States economy can only grow by 2% a year, and so the U.S. Federal Reserve and Wall Street are “making a big mistake” in assuming the domestic economy “cannot overheat,” said Jim Paulsen, chief investment strategist, Well Capital Management on May 21 to CNBC.

In fact, there is the threat “you’re going to aggravate costs, [and] push interest rate pressures,” Paulsen warned.

It is hard to know where to begin with Paulsen’s analysis.

Global Supply Lines

First, can Paulsen name a single industry that is supply-constrained, that is now rationing output by price? If so, I want Paulsen to name that industry, so I can buy a related ETF.

Paulsen also ignores that the U.S. supply side has globalized since the 1970s. If more steel, autos, computers or architectural services are demanded in the U.S., the supply side is international. Surely, Paulsen cannot believe there is not 2% more capacity in global supply lines (most of which are begging for business, btw)?


Unit labor costs in the U.S. are up 5.8% in the last eight years, and labor income as a fraction of business income declining in the U.S. for decades. Maybe this will change, but for now labor costs are nearly deflationary.

Interest rates?

The Economist magazine recently reported there is $12 trillion in cash sitting in U.S. banks and money market funds, earning nearly zero percent interest. And Bain & Co. is predicting capital gluts as far as the eye can see, at least for the rest of this decade. How do you get higher interest rates with capital gluts?

Housing-Maybe A Worry

People in expensive single-family detached neighborhoods do not like sky-rise condos with ground-floor retail erupting next door. In a nutshell, this explains why the U.S. may have housing inflation from time to time. Local housing markets may in fact be supply-constrained. Whether such local regulations lead to national inflation, or should determine central-bank monetary policy is an interesting question. Probably, the Fed just has to live with a little inflation from this quarter.


The main economic problem remains a lack of aggregate demand, in the United States, and globally. Not only that, it sometimes takes a round of inflation to stimulate supply—think oil markets, or even housing markets. The route to greater supply is paved by inflation. Life is not perfect, and that is another example thereof.

So, the Fed should print more money.

The monetary view of the Great Recession

It´s nice every month to get the e-mail from the Center for Financial Stability announcing the update of the Divisia broad money series.

Here I use it to explain events surrounding the great recession and the slow recovery.

The charts indicate that with both broad money growth and velocity “dropping down the chute”, nominal spending (NGDP) can´t do anything except dutifully follow!

Monetary View of GR_1

Monetary View of GR_2

And over the last few years, while velocity has basically regained its pre-crisis level, broad money growth has remained much lower. The implication is that nominal spending is growing at a significantly lower pace, keeping the economy “trapped in a depressed state”.

In a criminal investigation, often the good strategy is phrased as “follow the money”. Many economists, in trying to “explain” the slow growth prefer to search for “residual seasonality“!

Update: Rereading this 15-month old post, I think it gives support to the arguments made here fo the “monetary view” of the GR:

Bottom line: The oil shock of 07-08 was a trigger for the Fed´s actions. And these actions were inimical to the health of the economy, already weakened by the fall-out of the house price bust. It is clear from the statements, minutes and now transcripts for 2008 that the Fed´s focus was on headline inflation, and since that was being significantly impacted by oil prices, the “public” anticipated monetary policy tightening (a rise in rates). No wonder NGDP dropped significantly (plunging after July 08).

One good paragraph and two awful ones!

In his conclusion to “The Idolatry of Interest Rates Part I: Chasing Will-o’-the-Wisp”, James Montier writes:

This paper has sought to tackle two forms of idolatry surrounding interest rates. First is the idolatry of the “equilibrium/natural/neutral” rate of interest displayed by central bankers around the world. This is a make-believe concept with no foundation in the way our financial world really works. It is scary to think that this is the topic that central bankers are debating. Talk about a massive exercise in navel gazing!

The second idolatry I’ve sought to tackle is the modern-day belief in the world’s greatest con: that monetary policy matters. There is precious little evidence that monetary policy matters for the major components of demand (investment and consumption look pretty immune to the shifts in interest rates over time).

Perhaps it is time to recall that we have another tool in our economic kit: fiscal policy. This is a political pariah of a policy, but offers a potential way out of the low growth we find ourselves facing.

The first paragraph is perfect. “Talk about a massive exercise in navel gazing”, indeed!

(Update) Picture of “navel gazing”:

Navel Gazing

But Montier loses it badly thereafter. If he only went and asked FDR, or Paul Volcker, or Kuroda, to name only a few “operatives”. In 1933, despite the large depreciation of the dollar, the trade balance went into deficit, the same happening when Kuroda got a huge yen depreciation in 2013. Volcker whacked inflation with? You guessed, monetary policy.

He´s right that “there´s precious little evidence that monetary policy matters for the components of demand. That´s the implication of the “never reason from a GDP component change” principle! What matters is AD (NGDP).

And fiscal policy, without an adequate monetary policy, certainly does not offer a way out!

More than most, Terrorists understand the importance of economic history

Lars e-mailed this news:

Bin Laden´s reading list

Materials Regarding France   (19 items)
  • Call for Submissions to French Culture, Politics, and Society Journal
  • Did France Cause the Great Depression?” by Douglas Irwin, National Bureau of Economic Research
  • Economic and Social Conditions in France during the 18th Century by Henri See (2004)
  • “Economic Survey of France 2009”
  • “France Country Report,” European Network and Information Security Agency (Jan 2010)

As Lars notes: “maybe he realized that the worst form of terrorism is monetary policy failure”

The Japan Story

A Benjamin Cole post

If you don’t like quantitative easing, then consider this: The Nikkei 225, a broad measure of Japan’s stock market, is up 45.9% in the last 52 weeks.

On May 20, official Japan reported that Q1 GDP was up 2.4% YOY.

This is good news for Japan, a nation nearly moribund from 1992 through 2012, when so encrusted in deflation it managed but scant growth of 1 percent annually. In that pair of lost decades, the Japan stock market lost about 80% of its nominal value, as did property values. The nation became deeply indebted, as it tried fiscal stimulus to revive. The yen soared in value against the U.S. dollar.

The twenty years after 1992 were a debacle for Japan, a long real-world experiment that savages the folly that deflation and a strong currency are economic cure-alls.

Congratulations are in order to the current Bank of Japan, led by the courageous Governor Haruhiko Kuroda, who has shown resolve, so unlike the indecisive, feeble troupe who gaggle together at the Federal Open Market Committee, the lugubrious policy-making board of the U.S. Federal Reserve.

In contrast to the stop-and-go FOMC, BoJ’er Kuroda has been buying $80 billion in bonds a month since 2013, and has said he would do more if necessary to hit his 2% inflation target.

And yes, ordinary Japanese are benefitting too: “Wage growth is now positive, ending years of wage deflation,” Christopher Mahon, of Baring Asset Management recently told Barron’s. Mahon says buy Japan.

If I have criticism for the BoJ, it is that they should have a nominal GDP target, not an IT—more on that later.

QE in the U.S.

When finally the Fed did try to right kind of QE—QE3, which was open ended, results dependent—QE worked in the United States too. After peek-a-boo with QE 1 and QE2, the Fed in September of 2012 said it would buy $40 billion a month, and later upped that to $85 billion a month, until conditions improved. That policy roughly worked (although note that BoJ is buying $80 billion of bonds a month in an economy half the size of the U.S. economy).

Yet unlike the BoJ stalwarts, the FOMC folded up their QE tents when inflation was still below target, ending QE3 in October, 2014. Thus, the FOMC sent a signal to Wall Street and markets everywhere: seeking robust economic growth is not worth risking inflation even close to 2%.

Since the Fed quit QE, the DJIA has drifted sideways for fleeting gains, while the first half 2015 may be flat in terms of GDP growth, with just a little bad luck.

The U.S. is in the same “stall speed” that defined Japan for two decades.

And For What?

The Fed is obsessed with a nominal index of prices, the PCE deflator.

But as Martin Feldstein pointed out recently in the The Wall Street Journal, government indices of inflation are imprecise, and may read a few percent high. The Fed may have the nation in Japan-style deflation now.

Feldstein then lectured that government policies should be growth-oriented, more so than today.

Amen—I hope the Fed is listening. And watching. Watching Japan, that is.

And the IT? Well, Marcus Nunes is right, as he recently blogged: The Fed should actually target nominal GDP. But if they would even have the resolve to hit the IT they have, or preferably one a bit higher, that would be an improvement.

The Only U.S. Macroeconomics Graph You Need

A Benjamin Cole post

That the United States economy today is far less inflation-prone than the 1970s is hardly in dispute. But for some reason—ideology, or generational perhaps—we have now a Fed that is monomaniacally obsessed with inflation, and thus overly timid of promoting robust growth. Or even of trying.

B Cole_Only graph

Since the 1970s, we have seen international trade balloon in the U.S., with the attendant global supply lines. We have seen the destruction of Big Labor, Big Auto, Big Steel, Big Aluminum, big anything. Who has market power today?

Meanwhile, retailing has been transformed by the incredible global sourcing and efficient distribution of a Wal-Mart, Target or the ubiquitous dollar stores—not to mention now-robust informal retail markets courtesy of Craigslist and the Internet.

Moreover, since the 1970s whole industries, such as transportation or finance, have had price shackles thrown off. Remember regulated airline, train and trucking fares? How about fixed stockbroker commissions? Passbook rates?

Top federal marginal tax rates have been cut from 90% in the 1960s to under 40% today—capital is abundant, or even glutted. No good idea in business today goes unfunded. This is different from a couple decades back, when many complained that one “had to have connections” to get bank or VC funding.


The proof is in the pudding. The last time the U.S. saw double-digit inflation was in the 1980s, and early at that. The last time the U.S. had a reported annual CPI rate above even briefly above 5% was…twenty-five years ago.

Today, if there is demand for something in the U.S—cars, say—it is not only the Big 3 who answer the call. It is Honda, Toyota, Mazda, Nissan, Hyundai, Kia, Volkswagen, BMW, a few others and what is left of the Big 3, those being GM, Ford and Fiat-Chrysler.

The Upshot

The Fed and the inflation-fixated are fighting the last war. The game now is to keep demand growing and robust. Prices will take care of themselves. That is called competition, and we have never had so much competition before in the U.S.

Print more money.

Surprise! Martin Feldstein, unwittingly, makes the case for nominal stability

In the WSJ, MF writes “The U.S. Underestimates Growth”:

…This is why we shouldn’t place much weight on the official measures of real GDP growth. It is relatively easy to add up the total dollars that are spent in the economy—the amount labeled nominal GDP. Calculating the growth of real GDP requires comparing the increase of nominal GDP to the increase in the price level. That is impossibly difficult.

But John Cochrane gives a “convenient” interpretation of MF in “Feldstein on Inflation“:

The basic idea is that inflation may be overstated, because it doesn’t do a good job of handling new products. As a result, real output growth may be a bit stronger than measured.  Marty runs through a lot of sensible conclusions.

He doesn’t talk about monetary policy, but that’s interesting too. So what if inflation really is (say) 3% lower than we think it is, and therefore real output growth is 3% larger than it really is?
That would mean we are a lot closer to “normal” of course.

It´s not Friedman´s Chicago any longer!

Note: Nominal Stability a.k.a. NGDP Level Targeting

The ECB will not change strategy, even if that means marching towards and falling-off the precipice!

The European Central Bank can’t change the fundamental goal of its monetary policy, even in times that call for extraordinary measures, said European Central Bank Executive Board member Yves Mersch in remarks published Monday.

“What anchors trust in the central bank is that our objective and strategy stay constant–and this is even more important when monetary policy becomes more unconventional,” he said. “For this reason, innovative ideas to change our strategy, such as targeting a price level, would in fact be counterproductive in the current environment.

The ECB´s target is an inflation rate close to but slightly below 2%. From 1999 to 2007 they did an almost perfect job, with inflation averaging 2%. Over the last few years, however, inflation has been on a downtrend and has recently even become negative!

The chart shows what happens under the IT and PLT alternatives. Given that the price level has fallen significantly below the 2% trend line from 1999, if, as Mr Mersch prefers, the ECB keeps to its IT strategy, the price level will be permanently lower. This means that the ECB will not be ‘penalized’ for having missed the inflation target for a long time. It´s sufficient that from now on it hits it!


Adopting a price level target, on the other hand, would force the ECB to offset its previous error. Temporarily, inflation would be higher than 2%, which, in any case, is exactly what´s needed!

It would be even better if, instead of a price level target the ECB adopted an NGDP level target, but that would be asking too much from such a conservative body.