June 10, 2006
Hawk or dove?
The pundits continue to be frustrated in their efforts to pigeonhole the Federal Reserve Chair.
There is an interesting tabular summary from Liz Rappaport and Barry Ritholtz, which claims to chronicle a series of shifts in Bernanke's expressed positions. For example, when Bernanke stated on April 27 that
At some point in the future the Committee may decide to take no action at one or more meetings in the interest of allowing more time to receive information relevant to the outlook. Significant uncertainty attends the outlook for housing, and the risk exists that a slowdown more pronounced than we currently expect could prove a drag on growth this year and next.
the pundits labeled Bernanke as a "dove". But on June 5, when Bernanke declared
core inflation...has reached a level that, if sustained, would be at or above the upper end of the range that many economists, including myself, would consider consistent with price stability and the promotion of maximum long-run growth. Some survey-based measures of longer-term inflation expectations have edged up, on net, in recent months, as has the compensation for inflation and inflation risk implied by yields on nominal and inflation-indexed government debt.
the bird-watchers decided, no, he's really a "hawk." And so the record of claimed "flip-flops" goes, back and forth.
Now, let me ask you. Suppose you were out on a walk, and asked your presumably learned companion, "what kind of bird is that?" Your bird-watching expert gazes through his binoculars, and says confidently, "that's a dove." Then he takes another look, and declares, "no, now it looks like a hawk." And then, "I was right the first time-- it's a dove," and next, "no, I mean hawk, I'm really sure this time." What would you conclude?
One possibility is that this is really an amazing bird with incredible powers of self-transformation. Another possibility is that your companion is not the expert at bird-identification that you may have thought he was.
Mark Thoma says that when I blame the markets for misunderstanding Bernanke's message, I'm like a typical professor who blames the class for not understanding my wonderful lecture. There may be some truth to that charge. But I'm trying to call the class's attention to the fact that pretending you can summarize Bernanke's worldview with a single word, and the word is only allowed to be either "hawk" or "dove", is fundamentally misguided. As Brad DeLong puts it,"markets, and the financial press, seem puzzled by the fact that Ben Bernanke can think about more than one thing at a time."
So let me once again try to set the record straight. What does Bernanke really believe? Well, for starters, that
the evidence of recent decades, both from the United States and other countries, supports the conclusion that an environment of price stability promotes maximum sustainable growth in employment and output and a more stable real economy.
That's what he believes, that's what he's going to do, and you can take that to the bank. If that makes him a "hawk" in your book, so be it. But he also has no desire to plunge the U.S. unnecessarily into a recession. So then he's really a "dove"? Then the limitation is in the vocabulary with which you're determined to describe him, not in the quality or consistency of his ideas.
Some people find that level of complexity unsettling. But personally, I prefer to have the U.S. Federal Reserve run by a human rather than a bird.
Posted by James Hamilton at June 10, 2006 06:58 PMdigg this | reddit
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Tracked on June 11, 2006 04:07 PM
The problem is not the level of complexity. It is the level of ignorance that makes the fine tuning of price stability an exercise in futility. Perhaps you should explain why the experience of monetary and fiscal policy making in the past 50 years supports your belief in fine tuning price stability (or employment, output, the trade balance, capital flows, interest rates, wages, the exchange rate or ...). The achievement of price stability in the 1980s (in US and elsewhere) was not the result of fine tuning policy instruments, but of politicians that finally recognized the high cost of inflation (I recommend to look at the Italian experience where politicians still debate the issue).
Posted by: edgardo at June 11, 2006 03:37 AM
Edgardo, I very much share your skepticism about fine-tuning, and if I see Bernanke start to do that, I'll be the first to start criticizing.
However, what I see currently in operation is just the basic principle of trying to contain inflation without causing a recession.
Posted by: JDH at June 11, 2006 06:40 AM
Speaking of birds......
If it walks like a duck and quacks like a duck...
The inflationary measures have been moving up at an acelerating rate. Even the core inflation rate is signalling the results of excess liquidity.
Bernanke has no choice but to keep the pressure on liquidity. He would like to pause but all the classic signs of a budding inflationary spiral are maturing. If the Fed waits much longer, they will lose control over the beast. I think the market's reaction suggests that the Fed still has considerable clout.
Now if we can just get Japan to stop printing so much money....
Posted by: zen at June 11, 2006 08:40 AM
He will go 1/4 in June and 1/4 in August and then find himself looking into the eyes of the monster of falling new/existing home prices coupled with unacceptable levels of inflation using any of the tweaked federal measures (tweaked to avoid large adjustments to social security payments).
Now politics always trumps economics and the politics of the United States simply will not now permit a period of falling existing/new home prices.
So BB will simply be forced to blink...and blink and blink and blink. And the first blink will come with the statement following the August meeting...some sort of super soothing nonsense that leaves no doubt that the next move is down. So BB's Volker moment will span only two meetings and two 1/4s. Wow. And following the first blink expect dollar down, non-precious commodities up and a gold/silver 'moonshot'.
IMHO the key to this somewhat inevitable scenario is the fragile condition of the existing home market. Each and every one of you should take a meeting with a very seasoned real estate broker(or a couple of them) in your own zip code, someone whose experience covers at least 30 years and who is willing to share with you his/her impressons regarding what level of pricing concessions are required to obtain quick sales at this exact point in time. What I have learned for my zip code (95404) is that the entire appreciation of the back 2/3 of 2005 has been reversed. When the reported aggregates begin to reflect numbers of this magnitude the cake will have been baked. And BB will find himself cooked.
IMHO Ben Bernanke will be a failed chairman, and soon.
Posted by: esb at June 11, 2006 09:50 AM
esb - housing prices are reversing regardless of what BB does... the magic is gone.
Dr Hamilton... On price stability & inflation... isn't it easier & wiser to try and control money supply than target inflation? Inflation is very hard to measure accurately since products change over time (product mix & features offered)? Inflation has been low yet home prices exploded - clearly a 'source' of inflation but not counted as such until it leaks out as increased rents.
Yet if I'm not wrong hasn't there been a significant increase in money supply this whole time... money that pumped up the real estate balloon... money that is now leaking out of real estate and into commodities and now a concern because commodities ARE considered inflation?
That in short it was the excessive growth of money supply that was the problem and not so much which individual sector the money inflated? That something would have ballooned given all that 'new' money?
Posted by: Anonymous at June 11, 2006 10:16 AM
Anonymous, I agree to some extent, and suggested in my post on M2 and inflation that the Fed has perhaps not been paying enough attention to M2. However, it is a very noisy indicator to be used as anything more than one of several guidelines for practical policy purposes.
Posted by: JDH at June 11, 2006 10:34 AM
I agree completely with the post (but this doesn't stop me from gloating when the punditocracy seems to shift in my direction). There are, however, subtle differences in the risk functions of different central bankers. I'm still (as I have all long) calling Bernanke a tad on the hawkish side. If I'm right, it will show up slowly in his accumulated actions, not in a few statements he happens to make under some particular circumstances.
Posted by: knzn at June 11, 2006 11:15 AM
I don't see the current situation as one in which inflation is a problem in any fundamental sense, much less one in which we should risk a recession to keep some measure of inflation below an arbitrary target. Before 1990, it was a problem in many countries because governments were relying on their central banks to finance public and private expenditures. What we have now in US and elsewhere (with a few exceptions, mostly in Africa) is a problem of adjustment in relative prices to accommodate the large increase in the nominal prices of oil and some other commodities (contrary to standard assumptions in most theoretical models, since the late 1960s I've been assuming that there is an inflationary bias in large relative-price adjustments--a lesson from old debates about high inflation in Latin America). Central bank interventions in this type of situation amounts to fine tuning price stability.
A different point: in the 1970s, I used to teach my students that the relevant definition of money was M? because economists would continue to discuss it forever (I stopped teaching monetary economics in the early 1980s, when inflation was no longer a fundamental issue). How can we seriously discuss short-run changes in money and inflation when we have failed to develop appropriate measures of M and P?
Posted by: edgardo at June 11, 2006 03:50 PM
I think esb has called it right.
Bernanke is trying to keep the dollar from crashing, for now. I don't think he really believes what he is saying about inflation; if Edgardo is right, the "inflation" isn't of the type the Fed can really control [as a side note, the commodities excuse doesn't explain service-sector inflation, but I think a big chunk of this is due to poor tax structure in health insurance].
This will proceed until the pain on the domestic economy is unbearable and the people and politicians are howling for Fed blood.
The housing market will crash harder than most think... note that the deflation is coinciding with a huge Fannie Mae scandal (which they are trying very hard not to let blow up in the news).
Anyway, the key here is not really how "big" the housing crash will be as much as the inevitable effect on consumer spending, which is 3/4 of the economy now. Growth is going to shut down in everything but the luxury segment.
Posted by: Aaron Krowne at June 11, 2006 07:56 PM
Here in northern New Jersey, it seems like there's some demand for housing closer to $400,000, but above $450,000 the market looks like a deer caught in the headlights: not moving. Funny thing is, not one realtor I've met with (I'm looking for a house now) will admit the obvious: the market just went through an unprecendented run-up and prices are coming down.
No homes are getting asking, and many are lowering prices between 5%-10%. This is before this looming ARM readjustment hits. I'd think a 20% correction to prices wouldn't be unrealistic, and would actually still leave all those geniuses who bought before 2001 sitting pretty.
I saw a program on HGTV the yesterday, with some realtor crowing about Chicago real estate, how some of it's increased 300% in the last five years. And I thought, well, of course it has, you idiot, it's done that everywhere.
People really don't understand yet what just happened, that we had a historic housing boom fueled by loose monetary policy. Which means people also won't be ready for what's about to happen.
Posted by: Paul Vigna at June 12, 2006 07:12 AM
Looking at Dr. Bernanke's performance from a professional investor's perspective, his public commentary seems to waffle back-and-forth between hawkish, dovish and every possible position in-between.
I'm not positive, but it strikes me as an academic approach at heart - i.e., the kind of lecture where a professor takes each side of an argument one-at-a-time to illustrate the key issues involved in a topic. Unhappily, Dr. Greenspan had a completely different approach and the markets are having a difficult time adjusting to the new voice of monetary policy.
And against this backdrop of uncertainty, Dr. Bernanke hasn't yet absorbed the implications of his incredible importance in the world, as evidenced by his cocktail party commentary to Maria aka "the money honey" Bartiromo and his almost as bad public apology for the slip-up issued a week or so later. We should all hope that he's learning fast from his crash-course in communications with the capital markets.
Last, I have to argue that it really does matter that Bernanke figures out what he thinks of the world and communicates it to the investment world in some consistent fashion. It's hard if not impossible to explain the interaction between monetary policy and the capital markets without considering rational expectations and to this point in time the only rational expectation for Bernanke's chosen policy direction is confusion, depending on whichever way the data and discourse is flowing most heavily on that day. Makes it easy to understand President Truman's wistful wish for a one-armed economist, it surely does . .. .. .
Posted by: Anarchus at June 12, 2006 09:52 AM
UPDATE: both Mark Thoma and Tim Duy have written extensively on this over at Economist's View, latest from Tim at Ascendancy of the Hawks. The analogy of the prof in the classroom was due to Mark (my original post incorrectly attributed it to Tim). I've corrected that now, and apologize for the mistake.
Posted by: JDH at June 12, 2006 11:12 AM
Perhaps pundits are having difficulty pigeon-holing (dove/hawk-holing) Bernanke because Bernanke really doesn't know what to do? Isn't inflation rising in many places around the world? What's a poor little Fed do with *that*?
Posted by: Thomas James at June 12, 2006 08:30 PM
I'm surprised that sustained crude oil prices don't make it into this discussion. With housing refis on the wane and no Next Big Thing propelling the stock market, $3 gas is adding salt to the wounds. [Would the dove/hawk attention that Ben is getting now be on the horizon if the stock market was doing better on account of, say, a significant pullback in crude pricing?]
In this period when it appears that the tide is approaching slack, the stock market is exhibiting unusual volatility and threatening to the downside. All because Ben is giving mixed signals according to these investment people. But it is the curtain on housing that is coming down that everyone (even these investment people!) can see now and the ramifications for the rest of the economy, esp this time, are significant. People are nervous and Ben is a minor distraction for them.
Greenspan should get the attention for this and later developments as Ben was only an understudy for most of this liquidity, no?
Posted by: calmo at June 12, 2006 10:27 PM
Bernanke is on a path that will end with the FOMC removing liquidity until something breaks. Usually, the US has a domestic mess to clean up and the strongest international story falls apart.
It is scary that China could be looking for someone to blame when their industrial policy falls to pieces.
For that reason, I am optimistic about Hank Paulson. Though I am saddened about the huge human tragedy that may unfold.
Posted by: Jeff G at June 12, 2006 10:28 PM
Delta 10 year nominal treasuries over real - 2.34% at 1/06, 2.65% at 6/1 and 2.54% at 6/12 - 20 BP up. Not exactly a seismic swing. I think BB is beginning to understand how much power he has. The gloomy are gloomy, but then when aren't they?
Posted by: Rich Berger at June 13, 2006 08:24 AM
This just in: core prices up 0.3%. I can hear Bernanke now, "Oh no, what if I keep raising and oil prices keep climbing ... what should I do, what should I do??"
Posted by: Thomas James at June 14, 2006 08:06 AM
Actually, I think the problem with Bernanke is that he's NOT saying "oh no, what do I do now", enough.
Instead, he's saying things such as "... monetary policy must be conducted with great care and with close attention to the evolution of the economic outlook as implied by incoming information. Given recent developments, the medium-term outlook for inflation will receive particular scrutiny ... the evidence of recent decades, both from the United States and other countries, supports the conclusion that an environment of price stability promotes maximum sustainable growth in employment and output and a more stable real economy. Therefore, the Committee will be vigilant to ensure that the recent pattern of elevated monthly core inflation readings is not sustained.
"Toward this end, and taking full account of the lags with which monetary policy affects the economy, the Committee will seek a trajectory for the economy that aligns economic activity with underlying productive capacity. Achieving this balance will foster sustainable growth ..."
What's wrong with those comments, you ask?
What's wrong is that the author seems to believe that by paying "close attention to the evolution of the economic outlook as implied by incoming information" and "taking full account of the lags with which monetary policy affects the economy" the Fed can fine tune a desired result.
The problem is that in the real world you CAN'T take full account of the lags in monetary policy because they're highly VARIABLE, and if you pay extremely close attention to incoming economic information and adjust monetary policy accordingly, what do you do when you BELATEDLY discover that the key data you were so confidently relying on turns out to be very inaccurate? [see footnote below for details].
Bernanke is in desperate need of a large dose of intellectual humility. Let us all hope that he gets it before he grinds the economy into recession in pursuit of the perfectly balanced growth trajectory.
David E. Runkle wrote a wonderful report on data revisions for the Minneapolis FRB in the Fall of 1998:
One wonderful howler: In real time, U.S. policymakers were told that real output declined by 5.8% in the recession of 1974-75 and they made their policy moves accordingly. Much, much later, economic data experts calculated that real output declined not by 5.8%, but by 2.0%! So, should Fed Chairpersons CONFIDENTLY base their policy adjustments on careful analysis of incoming data, or should they not?
Posted by: Anarchus at June 14, 2006 12:09 PM