What were they thinking? One view

This post was written by Simon van Norden of HEC-Montréal.

Krugman on Sunday bemoaned the thinking at the US Fed, writing

So I just read the latest speech from Richard Fisher of the Dallas Fed; it’s one of the most depressing things I’ve read lately, and given what I read that’s saying a lot.

Much of the speech is taken up with arguing that it’s not the Fed’s job to help the struggling economy, because the big problem there is business uncertainty about future regulation. Urk.

Krugman goes on to lament the fact that Fisher really only seems to care about the inflation part of the Fed’s dual mandate and appears to neglect the importance of economic stabilization.

That intrigued me enough to try to find out more about this President and CEO of the Federal Reserve Bank of Dallas, who helps to set US monetary policy. According to his official bio, he’s served both Democratic and Republican administrations, played a senior role in a major law firm and set up a successful investment firm. On the other hand, you could make the case that monetary policy is not his forté. As Mr. Fisher noted (in his speech on November 2, 2006)

... I am not a trained economist and make no pretense whatsoever of being a formal practitioner of the dismal science....I came to economics and the markets late in life. I started out as a midshipman at the Naval Academy, then migrated from learning to navigate the seas to navigating through the undergraduate basics of economics at Harvard. After a brief detour to Oxford—principally to find my wife and perfect my taste for good beer—it was onward to Stanford Business School,...

Looking through many of his speeches since he was appointed in 2005, I was struck by a number of things.

1. He loves to use naval metaphors.
2. When he talks about monetary policy issues, there’s little mention of unemployment. His clear preoccupation is inflation.
3. He sees globalization as a force that has reduced the effectiveness of monetary policy and the scope for fiscal policy.
4. He worries a lot about government debt and deficits and taxes.

Krugman seems depressed and surprised to find a man like that on the FOMC. I can understand his depression, but surprised? The views of such central bankers have been on prominent display for years. This man was obsessing about the deficit back in 2007:

...if we fail to get our fiscal house in order, we could bequeath our descendants unconscionable debt and slow the global economy to boot. Is that to be our legacy? [Speech, April 16, 2007]

He’s also been very clear on how fiscal policy should affect monetary policy:

Even the perception that the Fed is pursuing a cheap-money strategy to accommodate fiscal burdens, should it take root, is a paramount risk to the long-term welfare of the U.S. economy. The Federal Reserve will never let this happen. It is not an option. Ever. Period. [Speech, May 28, 2008]

How does he reconcile that with the Fed’s dual mandate? Sometimes he argues it’s more like a single mandate:

Earlier I mentioned the Fed’s dual mandate to manage growth and inflation. In the long run, growth cannot be sustained if markets are undermined by inflation. Stable prices go hand in hand with achieving sustainable economic growth. [Speech, May 28, 2008]

To see how he views this in practice, consider a series of speeches he made in early 2008. Remember, at the time, the economy had been in recession since December 2007, financial markets were severely distressed and major financial institutions were on the brink of collapse. So how did he view the role of monetary policy?

In today’s world, where investors can move their funds instantly from one currency to another to avoid depreciation, the price central bankers pay for high inflation is much higher than in the past. Understanding this, you can see why I am a steadfast inflation-fighting owl. [March 7, 2008]

But he had already nailed his colours to the mast a few days before, with this strongly-worded poke at the NYT.

Here, of course, I refer to the potential harm to the consumer and the business and financial sectors alike by unwittingly allowing the perception to take hold that, as the New York Times editorialized in its lead front page article last Thursday, “the Federal Reserve, signaled [its] readiness … to bolster the economy with cheaper money even though inflation is picking up speed.”[2] Talk of “cheap money” makes my skin crawl. The words imply a debased currency and inflation and the harsh medicine that inevitably must be administered to purge it. So you should not be surprised that I consider the perception that the Fed is pursuing a cheap-money strategy, should it take root, to be a paramount risk to the long-term welfare of the U.S. economy.... [Speech, March 4, 2008]

I just have to stress that last sentence. In March 2008, the paramount risk to the US economy is expected loose monetary policy. But what about the recession? the dual mandate? financial turmoil? He went on to clearly chart his preferred course (with multiple nautical references) in the same speech:

...We cannot, in my opinion, confidently assume that slower U.S. economic growth will quell U.S. inflation and, more important, keep inflationary expectations anchored. Containing inflation is the purpose of the ship I crew for, and if a temporary economic slowdown is what we must endure while we achieve that purpose, then it is, in my opinion, a burden we must bear, however politically inconvenient. To some, this may appear a Hobson’s choice. I don’t see it that way. Our obligation is to prevent inflation in order to sustain long-term employment growth. I believe that the best way to cut through the treacherous economic waves that are upon us and keep our ship steaming forward is to stick to our purpose. [Speech, March 4, 2008]

Bear Stearns collapsed the following week. His response?

In building the bridge to restore financial order and efficiency, my primary interest is to do the minimum necessary to get the job done. And no more. In so doing, my hope is that we restore the long-term faith of the millions of risk takers who make our economy so mighty. [April 9, 2008]

Such is the mindset of some of the men on the FOMC.

My bottom line is that I agree with Krugman. It is depressing, no, make that calamitous, to have someone with such a dangerous and cultivated degree of ignorance in a critical decision-making role. But let’s not be surprised. And let’s not pretend that Mr. Fisher is alone.

Comments

[Mike Moffatt]

In retrospect Richard Fisher got it wrong, but keep in mind on April 9, 2008 hit a record high of $112. Given how fast oil prices were rising in early 2008, I don't think it was unreasonable at the time to be worried about inflation.

[Simon van Norden]

Mike: You may think so but I do not.

At the AEA meetings in New Orleans in January 2008, it was clear that the professional concensus was that a recession was already "baked-in". Around April, my broker e-mailed some analyst's prediction that oil prices were headed beyond $200/bbl. My full reply to him was "Please stop sending me such drivel." Such forecasts could not be reconciled with realistic projections of weakening demand. In that vital respect, such worries were unreasonable.

But you're setting the bar much too low for Mr. Fisher in other ways as well. Any central banker may be worried about inflation at any time. But in my dicitionary, "paramount" means "chief in importance or impact; supreme; preeminent." Fisher did not just judge that there was a risk of inflation, he felt this risk was "paramount." I think a central banker who standing in a recession and on the brink of a systemic financial failure and feels that inflation risks like those in 2008 are "paramount" is literally incompetent. Would you agree?

[Mike Moffatt]

" I think a central banker who standing in a recession and on the brink of a systemic financial failure and feels that inflation risks like those in 2008 are "paramount" is literally incompetent. Would you agree?"

Only if your definition of 'incompetent' is wide enough to include 95% of the media and commodity markets.

Fisher got it wrong - absolutely hilariously wrong. But so did practically everyone at some level outside of Roubini and Paul Krugman (who correctly kept calling inflation fears 'overblown').

[Mike Moffatt]

As an aside, I believe this shows why an NGDP futures market probably wouldn't work as well as Scott Sumner envisions. Given that commodity prices are procyclic, what would of an NGDP market have said in early 2008? I have trouble seeing how they'd be so out of line with commodity futures markets and forex futures markets (a recession should cause oil prices to tank and take the Canadian dollar down with it - which is exactly what happened).

[Simon van Norden]

Mike: I don't know where your 95% comes from. Professional opinion I saw in January 2008 was debating whether or not the "subprime crisis" would spread from the housing to the economy at large. As I think Phil Swagel documented, the view inside the US Treasury that spring was that everyone understood the *risk* of widespread contagion, although they felt that this was not the most probable outcome. Recall also the spring tax rebate Bush used to stimulate the economy. But, if 95% of media and commodity markets did not see the risks, then I'd happily say that those 95% are literally incompetent to run US monetary policy.

Does that mean that we agree?

[Simon van Norden]

Mike: More about your 95%. Why not look at the Survey of Professional Forecasters? In mid-February 2008, the FRB Philadelphia described the results of their 2008Q1 survey as follows:

"The risk of a contraction has risen in this survey. Although the forecasters’ median estimate for real GDP this quarter and the next suggests slow, but positive growth, they think the risk of a contraction is high. That risk is pegged at 47 percent for growth this quarter, up from 23 percent previously, and 43 percent for growth in 2008 Q2, up from 22 percent. These current-quarter and one-quarter-ahead risks have not been this high since the survey of 2001 Q4, when they were 82 percent and 49 percent, respectively. The risk of a contraction in the quarters of the second half of the year are quite a bit lower than those of the first half, as the table below shows."

Hmmm.....and inflation?

"forecast. On a fourth-quarter over fourth-quarter basis, core CPI inflation will average roughly 2.2 percent in each of the next three years. Fourth-quarter over fourth-quarter core PCE inflation will average 2.0 percent in each of the next three years. Thus, neither projection suggests that the forecasters anticipate acceleration in the near term, as shown in the table below. The annual projections for core CPI inflation in 2008 and 2009 are about the same now as they were in the previous survey, when the forecasters projected this measure would be 2.2 percent in both years (not shown in the table). In contrast, the forecasters have raised their estimates 0.1 percentage point for core PCE inflation in 2008 and 2009—from 1.9 percent in both years (not shown) in the last survey to 2.0 percent in this survey.
Over the next 10 years, 2008 to 2017, the forecasters expect headline CPI inflation to average an annual rate of 2.50 percent, while headline PCE inflation will average 2.20 percent. Both estimates are up from the last survey, when the forecasters thought inflation over the 10-year period from 2007 to 2016 would average 2.40 percent in the CPI and 2.10 percent in the PCE price index (not shown)."

See for yourself: http://www.philadelphiafed.org/research-and-data/real-time-center/survey-of-professional-forecasters/

[Determinant]

We spent a generation cultivating inflation hawks and worrying about wrestling inflation to the ground and we forgot what it's like to have negligible inflation and high unemployment.

Who thought that we'd have to *gasp* encourage inflation in order to recover?

Why are we surprised that we achieved what we set out to do?

[Mike Moffatt]

Simon: "Does that mean that we agree?"

That part I can agree on - we should hold the member of a Fed Reserve bank to a higher standard than a commodity trader or media member.

RE: Inflation: Would you consider their prediction to be 'correct'? Looks to me they got it wrong as well. Sentence two of the very same report:

"However, the forecasters are not predicting a contraction."

Hindsight is 20/20. At the time the rate of chg. of the CPI-U was 4% and hit nearly 6% by the summer. Commodity prices were high. The Canadian dollar was sky high. Somebody was concerned about inflation.

Were a significant number of AEA members shorting commodities in early 2008? If not, why not? And if not, what does this tell us about the potential success of an NGDP market?

[Mike Moffatt]

All that being said, I agree with Krugman in that Fisher's recent speech *is* depressing. It's one thing to make a mistake (IMO a justifiable one), but it's another thing not to learn from it.

[Steve]

The economy grew slightly in 2008Q2, partly due to rebate checks and partly due to the interest rate cuts of late '07 into early '08.

The completely inexcusable policy mistake was a failure to ease in 2008Q3 when the dollar was rallying strongly and commodities began to crash hard. This mistake became even more blatant when the Fed failed to recognize that Paulson's decision to wipe out Fannie and Freddie preferred stock would severely deplete bank capital and restrict lending.

Recall that even after Lehman filed Chapter 11, the Fed warned about risks to inflation. Go research the FOMC statements. The WSJ editorial board commended the Fed for a "hard line in favor of hard money", again, after the Lehman Ch. 11. Then the chain reaction mark-to-market driven failure of megabanks led to a stealth (electronic) run on the banks. Still no ease. Not until a few days after the interest on reserves decision did we get a tentative ease from the Fed.

[Simon van Norden]

Mike: Well, we're probably not going to agree. You're of course, completely right: the average opinion in that survey was that the probability of recession was less than 50%. But at 47%, you'll have to agree that the recession risk was high. And the concerns about systemic financial fragility were very real (again, read Swagel's account of the discussions within the US Treasury at this time.)

But I think the biggest difference in our points of view is our view of what constitutes competence in a central banker. In my mind, it is not being right or wrong ex post. Policy is made under uncertainty, and if you can't cope with uncertainty you shouldn't be making monetary policy decisions. Policy decisions are about playing the odds; they are about balancing risk and reward. I think a good policy maker could be wrong a good proportion of the time, but only an incompetent one will ever be disastrously wrong.

But I'd be interested to hear your view. What evidence does it take to show that a central banker is not up to the job? Does Fisher's performance qualify?

[Simon van Norden]

Mike:
"Were a significant number of AEA members shorting commodities in early 2008? If not, why not?"

Delong, Schliefer, Summers and Waldman: Noise traders drive rational stabilizing speculators from the market in equilibrium. The risk/return tradeoff looks unappealing to risk-averse rational investors. (Geez, don't they teach this stuff anymore?)

[Mike Moffatt]

" In my mind, it is not being right or wrong ex post."

Agreed.

"Does Fisher's performance qualify?"

No one in the Fed's does, IMO, but because of their actions in 2010 and their inability to consider other forms of monetary policy other than manipulating the Fed Funds rate.

Or put it differently: Can you make an argument that Fisher should go but the rest of the Fed should stay? How?

"Delong, Schliefer, Summers and Waldman: Noise traders drive rational stabilizing speculators from the market in equilibrium. "

IIRC it assumes the "rational stabilizing speculators" have a limited time-horizon. Why would that necessary apply here?

And if that's the case, then why wouldn't these people also have the same affect on a NGDP market?

[Mike Moffatt]

Err.. "necessarily" apply here.

[Mike Moffatt]

Here's how I would summarize the story I'm hearing. Please let me know if any part of this is incorrect:

1. In early 2008 "the professional concensus was that a recession was already "baked-in"" and would be happening in the relatively near future.

2. A recession, among other things, would drastically drop commodity prices and the Canadian dollars.

3. Despite the fact that the professional consensus was that a recession was on its way, oil prices and the Canadian dollar were at all-time highs and rising, with the rate of change of the CPI-U increasing during the spring/summer of 2008.

4. Even though a recession was on its way (3? 6? 9? 12? months away), the time horizon of the professionals who made up the consensus was significantly shorter than that, so they didn't bid down said commodity prices and Canadian dollars.

I find that difficult to believe. I believe what the second sentence of the forecast report you posted stated: "However, the forecasters are not predicting a contraction." Forecasters greatly underestimated the downside risk, inflation hawks were wrong that the high (and rising) CPI-U inflation rates would persist and pretty much nobody was correct.

[Mike Moffatt]

While I'm at it, I'll summarize my own views:

1. Given commodity prices, the inflation rate and the value of the currencies such as the Canadian and Australian dollar, being highly concerned about inflation in the 1st and 2nd quarter of 2008 was justifiable (if subsequently incorrect).

2. Steve is correct about the policy mistakes in 2008Q3.

3. Krugman is correct that Fisher's speech is alarming. Regulatory uncertainty as the key cause of low business investment? No.

4. The Fed currently can and should be doing more than it is, for the reasons Sumner describes daily on his blog. You can make a case that none of them are up to the job, including Fisher.

[Mike Moffatt]

5. I would love to see an NGDP market established but I do not believe it will turn out to be of any more use than commodity prices etc. were in 2008. However, given how cheaply and easily it could be set up, it should be tried.

[Alex Plante]

I think the real risk down the road is sovereign debt revulsion. Remember the 2008 crisis was caused by revulsion of banking instruments such as CDO's. Everything seemed fine until the level of debt was so high that investors began to doubt if they were sustainable. If the US and other major nations continue to have deficits around 10% of GDP then eventually you could have a similar crisis of confidence in sovereign debt.

If you don't take into account debt revulsion, Krugman is correct. If you do, then Fisher may eventually be proved right.

[ggg]

Uh, revulsion?

The underlying loans went bad. It wasn't lack of demand for those instruments that caused the crisis. It was the realization that the instruments were simply worth a lot less than previously thought.

"Everything seemed fine until the level of debt was so high that investors began to doubt if they were sustainable."

No, it was default rates increasing in the underlying pools. It's not like investors just woke up one day and decided that debt levels were too high, say back in 2006. The crisis didn't kick in until the defaults started rolling in.

Setting aside the fact that US Treasuries and the US deficit are not equivalent to CDOs and household debt levels, what does this even have to do with Fed monetary policy, the subject of disagreement between Krugman and Fisher? That's the topic, not fiscal policy.

[20th century workforce]

I saw the bubble just by looking at notional derivatives outstanding spike (and they are starting to ramp up again after Obama), and I realized they were just useless trading; tulips. I expected the USD to get cranked even worse and the rest of the world just to buy up cheap USD assets...didn't understand contagion.
What I've also learned is that the neocon playbook has always been to starve public spending and poison the well of any good quality-of-living improving social programmes. It is why Keynesian is still stuck at a 1940s state of science (can buy $16B in jets but not wind turbines from Cdn tool-and-die and aerospace and Mtl composites). Harper killed the market solution to AGW, a tax. He also depreciated our human capital. Our biggest corps are nothing but oil sands and finance. The world needs our finance consulting, but our banks make money with diminishing saturation of returns; surely they must flood us with ABCP or make risky emerging market bets. And the future doesn't want high footprint carbon. So we missed out on green stimuli. Fine given our employment rate. But these form the seed of future industries. Just like our unemployment became lower than USA thx to our wise Chretein and their Reagan and GWB, I predict we will trend above theirs in the decade or two ahead. Boomers will be screwed and the world of the future will demonize us (with mid century terrorist attacks and migration) for CPC/GOP sins if AGW runs away. Glad we're all Albertans.

[Jon]

I've been at the front-lines with Scott Sumner, arguing that policy has been tight, perhaps inadvertently so. I penned a piece for the WSJ along those lines back in early fall of '08 after the introduction of the SFP and IOR.

I think its really rich to look back at 2007 or early 2008 and say a-ha policy was tight, concern about inflation was reckless.

Simply put, the events of the two periods have different causes. We started out with a mild recession induced by real effects: the collapse of the housing market, new regulations on the consumer credit and student loan markets, a big minimum wage increase, changes in the FASB rules, and temporary supply disruptions in certain commodities markets, etc.

By all means this was a minor situation compared to what happened afterward. Any narrative needs to explain why growth suddenly slowed in 2008Q3.

And that's a story about tight money. One whose genesis started in mid'2008 when the Fed had clearly overshot its implicit inflation target in late 2007, early 2008. Keep in mind that while this was happening unemployment held flat.

With that in mind, the Fed got very hesitant to ease further. They had no unemployment and had goosed the inflation of a supply shock. So, they declined to ease in June. Meanwhile forward looking inflation was failing by July, but again they declined to ease at an emergency meeting. Then again in august. Their words at the time were, "Inflation has been high, spurred by the earlier increases in the prices of energy and some other commodities, and some indicators of inflation expectations have been elevated."

As you should know, if expectations become unmoored upward, the risk of a money induced inflation becomes much higher unless you bake-in those expectations--an action which tends to cause expectations to further rise and so on.

These were genuine concerns. Saying otherwise is dishonest or ignorant.

[Simon van Norden]

Mike: Sorry, been at a conference (and drinking with another former central banker.) Let me try to catch up.

"Can you make an argument that Fisher should go but the rest of the Fed should stay? How?"
Nope. I didn't and I don't intend to. I suspect we probably agree somewhat there.

DSSW: The argument does not require finite horizons on the part of rational speculators. (Where did you get that idea? Geez!)

Your summary of points 1-4: I agree with 1 through 3 and only quibble with 4. (The recession was already there.) The failure to short is explained by, among other things, DSSW. (See above.) I'll also note that shorting requires credit and credit markets were already half-frozen. Are you sure that you want to make a speculative efficiency argument during a liquidity and credit crisis?

I think a big part of the difference between our views comes from what we claim economic activity and inflation expectations were at the time. I'm saying: surveys showed that activity was expected to be weak, risk of recession high, and inflation expectations were well contained. I think you're saying that you can't buy into that because financial market behaviour was inconsistent with that view. I'll put my faith in the survey; you put your faith in the market. Is that a fair summary?

"...pretty much no one was correct." 47% predicted a recession and were right. Why are you calling them "no one"?

Steve makes some nice points about events in 2008Q3. (Thanks for the WSJ note!) However, I'm unclear about how policy mistakes then caused a recession starting in Dec. 2007. Isn't monetary policy supposed to work on the real economy with a lag?

[Mike Moffatt]

"Nope. I didn't and I don't intend to. I suspect we probably agree somewhat there."

Agreed.

"DSSW: The argument does not require finite horizons on the part of rational speculators."

Whoops - I wrote that wrong - my apologies. I meant finite horizons of the rational investors (as shown point point 3).

"Your summary of points 1-4: I agree with 1 through 3 and only quibble with 4. (The recession was already there.) The failure to short is explained by, among other things, DSSW."

Again, I don't think DSSW works here because you need to assume that rational investors are either unrealistically risk-averse or have unrealistically short time horizons.

"I'll also note that shorting requires credit and credit markets were already half-frozen."

Okay, this I can agree with.

"I'll put my faith in the survey; you put your faith in the market. Is that a fair summary"

I don't put full faith in markets (see my point #5 on NGDP markets). I put my faith in 'revealed preference' that in economics it's what people do, not what they say they'll do that counts. There simply wasn't enough 'smart money' betting for a recession at the time, DSSW aside.

As well, I think you're vastly overstating the accuracy of the forecasters. We all know markets got it wrong. But on a small level, so did forecasters. Look at page 1 - the mean probability of negative real GDP growth in 2009 is given as 4%.

"47% predicted a recession and were right."

No, 47% predicted negative GDP growth in the 2nd quarter. Given that the probability of negative real GDP growth in 2009 was 4%, are you comfortable stating that forecasters were accurate in predicting not only a recession, but the severity of the recession we received?

[Mike Moffatt]

RE: Markets vs. Forecasts

One point of clarification - I've never said Fisher was right about inflation, just that he wasn't crazy to be worried by it given what markets were doing at the time. That doesn't mean we place 'faith' in markets. I gave up on faith a long time ago. Rather we need to consider all the evidence, including that from professional forecasters as well as markets.

Fisher's 2010 position, however, I can't see how it can be justified.

[Mike Moffatt]

As an aside, I found "Geez, don't they teach this stuff anymore?" absolutely hilarious. Back when I was a Ph.D. student at U of Rochester, they *didn't* teach it - in core Macro at least. I don't remember ever studying a paper that wasn't from the 'five good guys' (Chicago, Northwestern, Minnesota, Penn or Rochester) or UWO. We didn't spend a whole lot of time discussing Brad DeLong.

That being said, it may have come up in a special reading Macro course or a finance course at Simon, but being an IO/game theory guy, I never took any of those.

My familiarity with the paper is due to an interest in the EMH I had 10 years ago when I read anything/everything I could find on the subject. Unfortunately that human capital has depreciated significantly over a decade - I really should read the paper again.

[Simon van Norden]

Jon:
"By all means this was a minor situation compared to what happened afterward. Any narrative needs to explain why growth suddenly slowed in 2008Q3." Agreed.

"And that's a story about tight money." Um.....no banking panic? collapse in the velocity of money? I'm missing a step in your logic here.

Your quote from the August FOMC minutes (I assume that where its from) is pertinent, but I think you're off base on the interpretation. The point of my post is that Fisher (and others) always see inflation risks and that they fail to balance them against other risks with real-side consequences (as the dual mandate requires.) Seriously: are you arguing that in August 2008 the importance of the inflation risks was such that, in a recession with a dangerously fragile financial sector, it justified the real-side risks they took? And that anyone who disagrees is with your evaluation is "dishonest or ignorant"? Really?

[Simon van Norden]

Mike:
"I put my faith in 'revealed preference' that in economics it's what people do, not what they say they'll do that counts."

"Rather we need to consider all the evidence, including that from professional forecasters as well as markets."

Hmmmm......

When I learned revealed preference theory, I learned that utility maximization was consistent with just about any behaviour. (Didn't they teach Folk Theorems at Rochester?) And that's just at an individual level. If you take that to the next level and interact heterogeneous agents in markets, you need strict assumptions to be able to recover something about individual beliefs from the resulting prices and quantities.

I always thought it was interesting that microeconomists are often happy to use survey data, but the macroeconomists who insist the most on formal microfoundations feel compelled to ignore them.

[Jon]

Seriously: are you arguing that in August 2008 the importance of the inflation risks was such that, in a recession with a dangerously fragile financial sector, it justified the real-side risks they took? And that anyone who disagrees is with your evaluation is "dishonest or ignorant"? Really?

The signals were mixed. The most important one being that unemployment had held flat. Saying there was only one right interpretation at the time is dishonest or ignorant of what was known at the time. Commenter Simon seems to regard Fisher as obvious wrong, "it was clear that the professional consensus was that a recession..."

That's my only point. The inflation view was _a_ plausible perspective albeit one clearly wrong in retrospect, however, I do not think it was visibly wrong in early 2008. That's independent of my personal chronological view: that the Fed thought it was already 'just right' in early summer 2008 when in fact the natural rate continued to fall, the fed funds did not fall with it, policy tightened--and expectations tightened, and wham the floor fell out.

Multiple interpretations is honest and accurate. Saying there was one clear interpretation of the evidence on hand at the time is not.

Lets be clear about something else though: Fisher was pretty wrong. He voted for rate increases in April, June, July... and I'm sure all the other meetings too. This wouldn't be a problem ordinarily because the Board typically has more professional economists but many of those seats have been left vacant by the President and the residuum of control exercised by regional bank presidents (who are bankers not economists) has increased substantially.

[20th century workforce]

"Unfortunately that human capital has depreciated significantly over a decade - I really should read the paper again."

GOP playbook is to starve the public sector. More oil labourers, insurance salesmen, less nurses and teachers. India call centres, developing countries have exported agri and textiles, Japan small cars and electronic goods, SE Asia chip-plants, I think China got powerful because doubled agri-production in 1980s. We subsidize public sector and oil, agri, mining. Much fat to cut where inefficient (census very efficient but I know teachers get rewarded for making low grade students dropout) and many private companies like staph-fighters could lower public costs.

Post-WWII, USA subsidized oil and defense. After taxes were lowered, became immortal as clear from behaviour when Cold War ended. It isn't too obvious because once these sectors won, merely cutting taxes works. Our gov has done the same, are loyal GOP clones, except insert banks (in fairness dividends instead of public debt here) for defense, and are trying to follow GWB's prison economy.
That paper wasn't written because economists are $selfish$ enough to unleash 21st century anarchy: global annual petro-subsidies $500B, global renewable subsidies $50B (fiance nesting means don't work for the latter). Who does your University sweetheart want you to work for? I'm to blame too, I'm too much a coward to write an underground blast refraction paper for now.
How long will an oil sands job last, 10 yrs assuming no massive fires droughts or floods before? Nursing will be around in 2040. In NY they pump out their non-glacial groundwater, filter it, and then pump it back into aquifer, so I guess make work for grunts if training (which of course is public funded if debt isn't too high, damn RCMP acted just like Jeb Bush).

[Simon van Norden]

Jon:
I've gone back and read carefully what you wrote and what I wrote. I've argued that Fisher was incompetent in weighing the risks, not in forecasting inflation. If you want to argue that there are always at least some forecasters who fear a resurgence of inflation, I'll agree with that. But that then begs the question of how to avoid overly tight monetary policy.

[Phil Koop]

"I believe this shows why an NGDP futures market probably wouldn't work as well as Scott Sumner envisions"

Could you please explain this remark? As I read Sumner, the role he proposes for a futures market is to inform the central bank of society's NGDP expectations. Since the role of the central bank, as Sumner sees it, is to set targets for these expectations, expectations that are "too high" ("too low") merely tell the bank to take action to reduce (increase) future expectations. What relevance do the oil futures prices of 2008 have to this mechanism?

The actual reason that NGDP futures wouldn't work is that, contra Sumner's repeated assertions, the powers of the central bank to influence NGDP and its expectations are weak and treacherous. One might as easily "target" the value of Plank's constant or the amount of frozen water on Mars.

[Mike Moffatt]

" If you take that to the next level and interact heterogeneous agents in markets, you need strict assumptions to be able to recover something about individual beliefs from the resulting prices and quantities."

Only if I'm trying to conduct a mathematical proof - since this is a blog, not an academic paper I think we can get by with a standard less than metaphysical certitude.

Also, did you see this? Thoughts?

Why does anyone support private macroeconomic forecasts?

http://www.marginalrevolution.com/marginalrevolution/2010/08/why-does-anyone-support-macroeconomic-forecasts-from-a-private-investment-bank.html

"Could you please explain this remark?"

Sure - I was using the phrase 'work' pretty loosely.

If the purpose NGDP futures is solely to gauge expectations, then yes, I think it can and will work. If the purpose is to be used as an accurate forecast of future NGDP, then I'm less confident.

Of course, if you believe 'Delong, Schliefer, Summers and Waldman' would apply to a NGDP market, then it wouldn't even gauge expectations well. I don't, but some might.

[Simon van Norden]

Mike: "Only if I'm trying to conduct a mathematical proof - since this is a blog, not an academic paper I think we can get by with a standard less than metaphysical certitude."

Um....let's rewind the tape. You said:

"I put my faith in 'revealed preference' that in economics it's what people do, not what they say they'll do that counts."

I gave a rational for why some people think that 'revealed preference' (as expounded by macroeconomists in Rochester, among other locales) ignores basic microeconomics. My point was just that, while you apparently take this as an article of "faith", you should not expect everyone to be of the same faith. And just because they do not share your faith, they are not necessarily wrong or illogical or inconsistent.

I'm not asking you to justify your faith. But as an adult, you should realize that there are others.

[Mike Moffatt]

Agreed - that was a really bad way for me to have worded that.