Bullard makes sense, but misses the vital “ingredient”

In “The St. Louis Fed’s New Characterization of the Outlook for the U.S. Economy”, Bullard states:

It is a good time to consider a regime-based conception of medium- and longer-term macroeconomic outcomes. Key macroeconomic variables including real output growth, the unemployment rate, and inflation appear to be at or near values that are likely to persist over the forecast horizon.

Any further cyclical adjustment going forward is likely to be relatively minor. We therefore think of the current values for real output growth, the unemployment rate, and inflation as being close to the mean outcome of the “current regime.”

Of course, the situation can and will change in the future, but exactly how is difficult to predict. Therefore, the best that we can do today is to forecast that the current regime will persist and set policy appropriately for this regime. If there is a switch to a new regime in the future, then that will likely affect all variables—including the policy rate—but such a switch is not forecastable.

What´s missing is the acknowledgement that the “current (or any) regime” is the result of Fed decisions. In that case, if “further cyclical adjustment going forward is likely to be relatively minor” is mostly because the Fed is perfectly happy with the current regime.

The panel below “defines” three “regimes”: The “Great Moderation” regime, the “Great Recession” regime and the “Depression” regime. While Bullard (who changes views much more often than the other FOMC members) is content with the “Depression” regime, many of the others, by constantly talking “rate hikes”, are fliting with a change to a “Deeper Depression” regime!

Bullard States

In level terms:

Bullard States_1

Update: Ryan Avent agrees:

If the global real interest rate is in the neighbourhood of 0% and expected inflation is in the neighbourhood of 1%, that suggests the Fed will have an extremely difficult time raising nominal interest rates beyond 1%. Mr Bullard has the regime right, but the causation wrong. The Fed has driven the economy into this rut in its determination to keep inflation low.

Fed leaders don´t pay attention to staff research. Sometimes they don´t even pay attention to themselves

Recently, I asked “Why have such a large research staff if their findings are ignored”?, with Janet Yellen in the “title role”.

Let´s go down to the level of Fed presidents.

First, Bullard has made several recent speeches again calling for tightening……….because you never know when inflation finally is going to appear.  But contrast his call for tightening against this new research from his own staff:

The figure shows the PPM constructed from our preferred specification since January 1995.5 Since the mid-1990s, there have been four periods—broadly speaking—when the PPM exceeded a probability of 0.5 (that is, 50 percent). Inflation was highest in the mid-2000s and the PPM exceeds 0.5 for several months during this period.

But during this most recent business expansion, with inflation averaging less than 2 percent, the PPM averages well under 0.5. As of October 2015, the PPM predicts a zero percent probability that PCEPI inflation will average more than 2.5 percent over the next 12 months.

The PPM is another instrument that policymakers and financial market participants can add to their tool kit to monitor the near-term outlook for inflation. The Federal Reserve Bank of St. Louis will regularly update the PPM shortly after the release of the monthly PCEPI.

Let´s not quibble, understand “0% probability” as meaning extremely low probability.

Next, San Francisco Fed president John Williams (who doesn´t pay attention to himself):

Now that the United States is closing in on full employment and inflation is likely to rise to target levels, the “next step” should be to start gradually increasing rates, a top U.S. central banker said on Saturday.

“I do think it makes sense to gradually remove the policy of accommodation that helped get the economy to where we are,” San Francisco Federal Reserve Bank President John Williams told the Arizona Council on Economic Education.

He must have forgotten the very recent update on his own research “Measuring the Natural Rate of Interest Redux”, which shows it has been negative for the past three years (see Fig 5)! How, then, under his criteria, can policy be accommodative?

Today, Bullard was the lunch attraction at the SOMC!

That´s the “Shadow Open Market Committee”. The title of his talk: Three Challenges to Central Bank Orthodoxy. His opening:

The current monetary policy debate in the U.S. is at a crossroads. Since 2007-2009, the Federal Open Market Committee (FOMC) has pursued a very aggressive monetary policy strategy. This strategy has been associated with a significantly improved labor market, moderate growth, and inflation relatively close to target, net of a large oil price shock. A key question now is how to think about monetary policy going forward.

And concludes:

In this address, I have outlined an interpretation of current events in U.S. monetary policy that I called the orthodox view. This view stresses the currently stark difference between FOMC objectives, which are arguably nearly attained, and FOMC policy tools, which remain on emergency settings. A simple and prudent approach to current policy would be to begin normalizing the policy settings in an effort to extend the length of the expansion and to avoid taking unnecessary risks associated with exceptionally low rates and a large Fed balance sheet. This would be done with the understanding that policy would remain extremely accommodative for several years, even as normalization proceeds, and that this accommodation would help to mitigate remaining risks to the economy during the transition.

What Bullard and many others call “very aggressive” monetary policy just reflects the mistaken view that monetary policy (MP) is synonymous with interest rate policy (IRP). The same large group also likes to appeal to unspecified “risks” that supposedly flow from  “excessively” low rates so that “prudent” policy would be to begin to “normalize policy” (another reference to MP=IRP). As Jeremy Stein famously said halfway through his short tenure at the Board, “interest rates get into all of the cracks”. Anyway, the FOMC objectives are nearly attained!

By osmosis, inflation will converge on 2%!

John Williams is the “on one hand on the other hand” kind of guy:

I’ll start with the arguments for continued patience in removing monetary accommodation. First, we are constrained by the zero lower bound in monetary policy and this creates an asymmetry in our ability to respond to changing circumstances. That is, we can’t move rates much below zero if the economy slows or inflation declines even further. By contrast, if we delay, and growth or inflation pick up quickly, we can easily raise rates in response.

This concern is exemplified by downside risks from abroad. One such risk is the financial turmoil and economic slowdown in China, which I’ll get to shortly. More generally, economic conditions and policy overseas, from China to Europe to Brazil, have contributed to a substantial increase in the dollar’s value, which has held back U.S. growth and inflation over the past year. Further bad news from abroad could add to these effects.

That brings me to inflation, which has been under our target for over three years. This is not unique to the United States—inflation is very low in most of the world. Although we can ultimately control our own inflation rate, there’s no question that globally low inflation, and the policy responses this has provoked, have contributed to put downward pressure on inflation in the U.S. Although my forecast is that inflation will bounce back, this is only a forecast and there remains the danger that it could take longer than I expect.

Those are arguments on the side of the ledger arguing for more patience. On the other side is the insight of Milton Friedman, who famously taught us that monetary policy has long and variable lags. I use a car analogy to illustrate it. If you’re headed towards a red light, you take your foot off the gas so you can get ready to stop. If you don’t, you’re going to wind up slamming on the brakes and very possibly skidding into the intersection.

Luckily Bullard doesn´t vote, otherwise there would have been two dissents:

“The case for policy normalization is quite strong, since Committee objectives have essentially been met,” he said during his presentation titled, “A Long, Long Way to Go.”

However, he noted, “Even during normalization, the Fed’s highly accommodative policy will be putting upward pressure on inflation, encouraging continued improvement in labor markets, and providing the best contribution to global growth that we can provide.”

Bullard noted that the FOMC wants unemployment at its long-run level and inflation at the target rate of 2 percent. “The Committee is about as close to meeting these objectives as it has ever been in the past 50 years,” he said.

In justification of his dissent, Lacker wrote:

“I dissented because I believe that an increase in our interest rate target is needed, given current economic conditions and the medium-term outlook.

“Inflation has run somewhat below the Committee’s 2 percent objectivein recent years and was held down late last year by declining oil prices and appreciation of the dollar. Since January, however, inflation has been very close to 2 percent. Movements in oil prices and the value of the dollar in recent weeks have renewed downward pressure on inflation. As with last year’s episode, this disinflationary impulse is likely to be transitory. So I remain confident that inflation will move back to the FOMC’s 2 percent objective over the medium term.

They can go on “wishin´and hopin´”, but it just won´t happen, at least not while NGDP growth is so low and constrained!


Sense & Nonsence

Unfortunately, “nonsense” “gallops ahead”!

Fed’s Bullard Upbeat on Economy, Sees No Need for New Stimulus (Nov 14)

Fed’s Bullard Still Wants Fed Rate Rise in Late First Quarter 2015 (Nov 14)

Fed’s Bullard Still Pushes for First Quarter Rate Rise (Jan 15)

Fed’s Bullard Eager to Raise Rates Soon (Jan 15)

Fed’s Bullard Shrugs Off Inflation Expectations Drop, Favors Rate Rises (Feb 15)

Fed’s Bullard: Delaying Interest-Rate Increase Much Longer Creates Risk (Feb 15)

Bullard: Now May Be Good Time to Start Raising Rates (Mar 15)

Bullard “delirates”:

May 28, 2015 01:03 p.m.

The Federal Reserve should consider new policy options, including directly targeting a non-inflation-adjusted level of economic growth, after more than six years of sustained monetary easing failed to spur a boom, Federal Reserve Bank of St. Louis President James Bullard said.

Bullard not “in a hurry” any longer:

June 3, 2015 05:15 p.m.

It is appropriate to think the Federal Reserve won’t raise interest rates at its June policy meeting following a recent run of weak economic data, Federal Reserve Bank of St. Louis President James Bullard said Wednesday.

But, the “old Bullard” comes back as “Orphanides”:

Mr. Bullard spoke with reporters before Athanasios Orphanides, former head of the Cyprus central bank and an ex-Fed economist, delivered the St. Louis Fed’s annual Homer Jones Memorial Lecture. Mr. Orphanides told reporters he isquite concerned that the Fed is way behind the curve already” in terms of tightening policy.

Pity the “magic acronym” was uttered by someone as fickle as Bullard!

Just a few examples of Bullard´s fickleness in chronological order:

In “The core is rotten” (2011):

In my remarks tonight I will argue that many of the old arguments in favor of a focus on core inflation have become rotten over the years. It is time to drop the emphasis on core inflation as a meaningful way to interpret the inflation process in the U.S. One immediate benefit of dropping the emphasis on core inflation would be to reconnect the Fed with households and businesses who know price changes when they see them. With trips to the gas station and the grocery store being some of the most frequent shopping experiences for many Americans, it is hardly helpful for Fed credibility to appear to exclude all those prices from consideration in the formation of monetary policy.

In “Faulty reasoning” (2012):

The 2014 language in effect names a date far in the future at which macroeconomic conditions are still expected to be exceptionally poor,” Federal Reserve Bank of St. Louis President James Bullard said in a speech in St. Louis. “This is an unwarranted pessimistic signal for the [Federal Open Market Committee] to send,” given that the economy is recovering and forecasters can’t really tell what will happen that far down the road.

In “Bullard needs psychiatric meds” (2014)

On October 9:

In a speech that offered an upbeat assessment of the economy, Federal Reserve Bank of St. Louis President James Bullard said Thursday he is worried about what he sees as disconnect between what central bankers think will happen with monetary policy, and the view held by many in the market.

Right now, “the markets are making a mistake” and expect the Fed to maintain its ultra-easy policy stance longer than Fed officials themselves currently expect, Mr. Bullard said. When it comes to these expectations, “I would prefer that those be better aligned than they are.”

On October 16:

The Federal Reserve may want to extend its bond-buying program beyond October to keep its policy options open given falling U.S. inflation expectations, Federal Reserve Bank of St. Louis President James Bullard said Thursday.

It would keep the program alive,” and the Fed’s options “open as to what we want to do going forward,” Mr. Bullard said during an interview on Bloomberg TV.

In Bullard “Trail & Track” Nov 6 2014:

He´s an “off” “on” switch type of central banker. On October 9 he “switched off”, on the 16th he “switched on” and “switched-off” again today:

Federal Reserve Bank of St. Louis President James Bullard said in a television interview Tuesday that he is upbeat about the economy and doesn’t think any new central bank stimulus is needed to help keep the U.S. on track for 3% growth.

In “In a hurry” (Feb 2015):

Federal Reserve Bank of St. Louis President James Bullard said the U.S. central bank needs to change its policy statement to give it more room to maneuver with interest rate increases, in comments that also expressed hope the first rate rise will come soon.


The Federal Reserve should consider new policy options, including directly targeting a non-inflation-adjusted level of economic growth, after more than six years of sustained monetary easing failed to spur a boom, Federal Reserve Bank of St. Louis President James Bullard said Thursday.

Recently, Scott Sumner visited the St Louis Fed. It wasn´t for naught!

Today Bullard comes out of the closet with a euphemism:

The Federal Reserve should consider new policy options, including directly targeting a non-inflation-adjusted level of economic growth, after more than six years of sustained monetary easing failed to spur a boom, Federal Reserve Bank of St. Louis PresidentJames Bullard said Thursday.

“It’s time to question the current theory and explore other models about what’s going on at the zero lower bound,” Mr. Bullard said, referring to the Fed’s zero-rates policy that has been in place since December 2008.

Mr. Bullard was presenting new research conducted with three other economiststhat he says shows “the monetary authority may credibly promise to increase the price level…to maintain a smoothly functioning credit market.”

The model could be “broadly viewed as a version of nominal GDP targeting,” the paper says, referring to a policy in which a central bank would set a target for gross domestic product growth without an inflation adjustment. The idea would be to signal to markets and the public that the Fed is serious about generating a recovery, thereby spurring investment and spending.