Matt Nolan

QE2: Is the Fed “mistaken” on purpose

/2 Comments/in , /by

There is an excellent article on QE2 by Robert Barro (ht Greg Mankiw), I suggest you read it.

However, there is one point – where it goes from descriptive to a little more forward looking about policy – where I might see things in a slightly different shade:

The downside of QE2 is that it intensifies the problems of an exit strategy aimed at avoiding the inflationary consequences of the Fed’s vast monetary expansion. The Fed is over-confident about its ability to manage the exit strategy; in particular, it is wrong to view increases in interest rates paid on reserves as a new and more effective instrument for accomplishing a painless exit.

I see QE2 slightly differently.  QE is partially a means of getting the Fed to commit itself to lower interest rates in the future, by introducing the “loss on bonds” in their objective function.  In essence, the Fed KNOWS that this policy will lead them to overshoot their inflation target.

Now I agree with Barro when he says that, by using different instruments the “future Fed” can reduce the relative losses – but if they have really introduced QE to commit to a lower path of short-term interest rates this is a mute point.

This is the key question for me here – are the Fed using QE as a commitment strategy, or are they just using it as a way to directly increase the money stock or directly push down longer term rates.  Personally, I don’t think the uses are independent and I think that some form of “commitment” is implicit in what they are doing.

Matt Nolan

A question to all

/4 Comments/in /by

Why do policy makers care about this graph so much right now? (ht Roger Kerr)

Specifically, my question to people is simply this three parter:

  1. Does this graph show an issue,
  2. If so, what is it?
  3. And if so, are their any changes that could improve matters?

Some small thoughts of my own beneath the fold.

Read more

Matt Nolan

RBNZ report for savings working group

/1 Comment/in /by

Is very good.  Read it.

I don’t agree with 100% of it, but I agree with the vast vast majority of it.

Matt Nolan

On the competitive devaluations

/4 Comments/in , , , , /by

I like this post by Menzie Chinn at Econbrowser – primarily because I agree with it 😉  It is well worth a read on its own.

I will however take some bits out for those who don’t want to leave right now:

Read more

Matt Nolan

Psychics, data, theory, and economics

/3 Comments/in /by

When Dr Bem’s study on psi was released, I chose to focus my discussion on how the study – if perfect and accepted – would give us a test of determinism vs free will.  When I initially saw the study, two things entered my head – and were filled up during a coffee meeting with a political scientist friend of mine:

  1. This acts as a test of determinism vs free will,
  2. It is MORE likely to lead to a realisation, and decision around, the weakness of statistical methods then to achieve any sort of belief about psi.  This is a good thing, as it is important to understand causal mechanisms when using data.

I was surprised, pleasantly, at the pace that psychologists actually moved onto that second point – see here (ht Marginal Revolution).

Now this is also a major point for economics, as has been pointed out by Chris Blattman and Alex Tabarrok (ht Offsetting Behaviour).  As discussed in this comment on the post on neo-classical economics, economists do recognise many of these limitations – which is why we often seem “pigheadedly” obsessed with theory.

There are ebbs and flows of course, when Chris states:

I don’t know if I believe a single cross-national result any longer.

I have to agree.

However, the fact that economists don’t feel like they can interpret the data cleanly enough, combined with the fact that the economic method is so broad that we can often explain the same set of data with entirely different models, with entirely different policy conclusions, is what makes it interesting 😉

Matt Nolan

Why QE will (and should) lead to inflation past the Fed target

/5 Comments/in , /by

I think QE was necessary, and I think the Fed has done a good job implementing it.  But one thing we have to be honest about is that it WILL, if it is done right, lead to inflation past the target at some point in the future.

There are many ways we can view the process of the Fed expanding its balance sheet and buying up a mix of Treasury and risky private debt:

  1. They are increasing the money stock directly, which if it gets spent will increase the money supply stimulating the economy,
  2. They are buying up long term debt, pushing down longer term interest rates directly,
  3. They are taking on risk at a point in time where people may be too “risk averse”.

All these considerations have their pro’s and con’s – but none of them directly imply that the Bank will deviate from its inflation target in the future.  Instead it is a fourth, and arguably the most important, part of QE policies that ensures they will do so – their use of the Fed balance sheet to influence their own future behaviour, making the “optimal path” for monetary policy time consistent.

Read more