All posts tagged Ben Bernanke

What can Niskanan teach us about central bank bureaucrats?

Numerous studies have shown that prediction markets performs remarkably well. For example prediction markets consistently beats opinion polls in predicting the outcome of elections. In general the wisdom of crowds is an extremely powerful tool for forecasting and there no doubt the markets are the best aggregators of information known to man.

Market Monetarists advocate using the power of prediction markets to guide monetary policy. Scott Sumner of course is advocating using NGDP futures in the implementation of monetary policy (as do I). Furthermore, I have advocated that central banks replace their internal macroeconomic forecasts with prediction markets and also that central banks could use Robin Hanson-style prediction markets to choose between different policy instruments in the implementation of monetary policy.

The advantages of using prediction markets are in my view so obvious that one can only wonder why prediction markets are not used more by policy makers – not only in monetary policy, but just think about the endless discussions about “climate change”. Why have policy makers not set-up prediction markets for the outcome of different “climate initiatives”? I think the explanation have to be found in public choice theory.

William Niskanen argues forcefully in his classic book on “Bureaucracy and Representative Government” (1971) that bureaucrats are no different from the rest of us – their actions are determined by what is in their own self-interest. Niskanen claims – and I think he is more or less right (I used to be civil servant) – that that implies that bureaucrats are maximizing budgets.

So how do bureaucrats maximize their department budgets? Well, it’s really simply – they use asymmetrical information. Take what is now called the Department of Homeland Security in the US. The job of the Department of Homeland Security’s is to monitor the risk of terror attacks on the US and implement policies to reduce the threat against “homeland security” (whatever that is…). If the Department of Homeland Security can convince the US taxpayers that the US faces a massive terror threat then the department is more likely to get allocated more funds. So if the Department of Homeland Security bureaucrats want to maximize their budget then it just have to convince the American public that the US faces a very large terror threat.

The average US taxpayer does not really have a large incentive to go out and find out how big the terror threat really is and remember as Bryan Caplan tells us that voters tend to be rationally irrational (they don’t really have an incentive to be rational in terms of political issues) and as a consequence the average US taxpayer would happily accept any assessment made by the Department of Homeland Security about the level of the terror threat. Hence, if the Department of Homeland Security overestimates the terror threat it will be able to increase its budget and as the Department has superior knowledge of the real threat level it can easily to do so. This of course is just an example and I have no clue whether the authorities are overestimating the terror threat (I am sure my US readers will be happy to tell me if this is the case).

Hence, a bureaucrat can according to Niskanen’s theory maximize its budgets by using asymmetrical information. However, there is a way around this and reduce the power of bureaucrats. It is really simple – we just introduce prediction markets.

Lets say that we set up one prediction market asking the following question: “Will more people die in terror attacks than in will die in drowning accidents in the US in 2012?” – Then this “terror/drowning”-prediction could be used to allocate funds to the Department of Homeland Security. My guess is that we would be looking at major budget cuts at the Department of Homeland Security. What do you think?

Anyway, my concern is not really the Department of Homeland Security, but rather monetary policy. If you think that the bureaucrats at the US Department of Homeland Security would use asymmetrical information to increase their budgets what do you think central banks around the world would do? Why would you expect central bank’s to pursue any given economic target in the conduct of monetary policy? And why would you trust the central banks to produce unbiased forecasts etc.?

Why is it for example that the Federal Reserve is so reluctant to formulate a clear nominal target? Could it be that it would not be in the bureaucratic interest of the institution? Could it be that central bank bureaucrats are afraid that they would be held accountable if they miss their target?

I don’t know if it is so, but if not then why not just formulate a clear and measurable nominal target? For example a target to increase nominal GDP by 10% by the end of 2013? And why not then use the opportunity to set up a NGDP futures markets? And why not let prediction markets take care of the Fed’s forecasts?

I am not saying that Ben Bernanke and his colleagues are Niskanen style bureaucrats, but if they want to prove that they are not then I am sure that Scott Sumner or Robin Hanson will be happy to advise them on setting up a NGDP futures market (or any other prediction market).

Of course the US Congress (or whoever is in charge) could also just regulate the FOMC member’s salaries based on their ability to hit a given target…

PS The so-called Policy Analysis Market (PAM) actually was meant to be used to among other thing assess the global terror threat. The project was shot down after political criticism of the project.

PPS our friend Scott Sumner is not all about monetary policy – he has also done research on how to use Prediction Markets to Guide Global Warming Policy.

PPS George Selgin would of course tell us that there is an even better solution to the “central-bankers-as-budget-maximizing-bureaucrats”-problem…

10 Comments

by Lars Christensen on February 16, 2012 • Permalink

Posted in Ben Bernanke, Federal Reserve, Free Banking, George Selgin, MM Research agenda, Monetary institutions, Prediction markets, Robin Hanson, Scott Sumner

Tagged Ben Bernanke, Federal Reserve, Policy Analysis Market, Prediction markets, Robin Hanson, Scott Sumner, William Niskanen

Posted by Lars Christensen on February 16, 2012

https://marketmonetarist.com/2012/02/16/what-can-niskanan-teach-us-about-central-bank-bureaucrats/

Let the Fed target a Quasi-Real PCE Price Index (QRPCE)

The Federal Reserve on Wednesday said it would target a long-run inflation target of 2%. Some of my blogging Market Monetarist friends are not too happy about this – See Scott Sumner and Marcus Nunes. But I have an idea that might bring the Fed very close to the Market Monetarist position without having to go back on the comments from Wednesday.

We know that the Fed’s favourite price index is the deflator for Private Consumption Expenditure (PCE) for and the Fed tends to adjust this for supply shocks by referring to “core PCE”. Market Monetarists of course would welcome that the Fed would actually targeting something it can influence directly and not react to positive and negative supply shocks. This is kind of the idea behind NGDP level targeting (as well as George Selgin’s Productivity Norm).

Instead of using the core PCE I think the Fed should decomposed the PCE deflator between demand inflation and supply by using a Quasi Real Price Index. I have spelled out how to do this in an earlier post.

In my earlier post I show that demand inflation (pd) can be calculated in the following way:

(1) Pd=n-yp

Where n is nominal GDP growth and yp is trend growth in real GDP.

Private Consumption Expenditure growth and NGDP growth is extremely highly correlated over time and the amplitude in PCE and NGDP growth is nearly exactly the same. Therefore, we can easily calculate Pd from PCE:

(2) Pd=pce-yp

Where pce is the growth rate in PCE. An advantage of using PCE rather than NGDP is that the PCE numbers are monthly rather than quarterly which is the case for NGDP.

Of course the Fed is taking about the “long-run”. To Market Monetarists that would mean that the Fed should target the level rather growth of the index. Hence, we really want to go back to a Price Index.

If we write (2) in levels rather than in growth rates we basically get the following:

(3) QRPCE=PCE/RGDP*

Where QRPCE is what we could term a Quasi-Real PCE Price Index, PCE is the nominal level of Private Consumption Expenditure and RGDP* is the long-term trend in real GDP. Below I show a graph for QRPCE assuming 3% RGDP in the long-run. The scale is natural logarithm.

I have compared the QRPCE with a 2% trend starting the 2000. The starting point is rather arbitrary, but nonetheless shows that Fed policy ensured that QRPCE grew around a 2% growth path in the half of the decade and then from 2004-5 monetary policy became too easy to ensure this target. However, from 2008 QRPCE dropped sharply below the 2% growth path and is presently around 9% below the “target”.

So if the Fed really wants to use a price index based on Private Consumption Expenditure it should use a Quasi-Real Price Index rather than a “core” measure and it should of course state that long-run inflation of 2% means that this target is symmetrical which means that it will be targeting the level for the price index rather the year-on-year growth rate of the index. This would effectively mean that the Fed would be targeting a NGDP growth path around 5% but it would be packaged as price level targeting that ensures 2% inflation in the long run. Maybe Fed chairman Bernanke could be convince that QRPCE is actually the index to look at rather than PCE core? Packaging actually do matter in politics – and maybe that is also the case for monetary policy.

4 Comments

by Lars Christensen on January 26, 2012 • Permalink

Posted in Ben Bernanke, David Eagle, Federal Reserve, George Selgin, NGDP Targeting, Nominal Income Targeting, Price Level Targeting, Productivity Norm, Quasi-Real Indexing, Quasi-Real Price Index, Scott Sumner

Tagged Ben Bernanke, Federal Reserve, Marcus Nunes, PCE, Quasi-Real Price Index, Scott Sumner

Posted by Lars Christensen on January 26, 2012

https://marketmonetarist.com/2012/01/26/let-the-fed-target-a-quasi-real-pce-price-index-qrpce/

Forget about the “Credit Channel”

One thing that has always frustrated me about the Austrian business cycle theory (ABCT) is that it is assumes that “new money” is injected into the economy via the banking sector and many of the results in the model is dependent this assumption. Something Ludwig von Mises by the way acknowledges openly in for example “Human Action”.

If instead it had been assumed that money is injected into economy via a “helicopter drop” directly to households and companies then the lag structure in the ABCT model completely changes (I know because I many years ago wrote my master thesis on ABCT).

In this sense the Austrians are “Creditist” exactly like Ben Bernanke.

But hold on – so are the Keynesian proponents of the liquidity trap hypothesis. Those who argue that we are in a liquidity trap argues that an increase in the money base will not increase the money supply because there is a banking crisis so banks will to hold on the extra liquidity they get from the central bank and not lend it out. I know that this is not the exactly the “correct” theoretical interpretation of the liquidity trap, but nonetheless the “popular” description of the why there is a liquidity trap (there of course is no liquidity trap).

The assumption that “new money” is injected into the economy via the banking sector (through a “Credit Channel”) hence is critical for the results in all these models and this is highly problematic for the policy recommendations from these models.

The “New Keynesian” (the vulgar sort – not people like Lars E. O. Svensson) argues that monetary policy don’t work so we need to loosen fiscal policy, while the Creditist like Bernanke says that we need to “fix” the problems in the banking sector to make monetary policy work and hence become preoccupied with banking sector rescue rather than with the expansion of the broader money supply. (“fix” in Bernanke’s thinking is something like TARP etc.). The Austrians are just preoccupied with the risk of boom-bust (could we only get that…).

What I and other Market Monetarist are arguing is that there is no liquidity trap and money can be injected into the economy in many ways. Lars E. O. Svensson of course suggested a foolproof way out of the liquidity trap and is for the central bank to engage in currency market intervention. The central bank can always increase the money supply by printing its own currency and using it to buy foreign currency.

At the core of many of today’s misunderstandings of monetary policy is that people mix up “credit” and “money” and they think that the interest rate is the price of money. Market Monetarists of course full well know that that is not the case. (See my Working Paper on the Market Monetarism for a discussion of the difference between “credit” and “money”)

As long as policy makers continue to think that the only way that money can enter into the economy is via the “credit channel” and by manipulating the price of credit (not the price of money) we will be trapped – not in a liquidity trap, but in a mental trap that hinders the right policy response to the crisis. It might therefore be beneficial that Market Monetarists other than just arguing for NGDP level targeting also explain how this practically be done in terms of policy instruments. I have for example argued that small open economies (and large open economies for that matter) could introduce “exchange rate based NGDP targeting” (a variation of Irving Fisher’s Compensated dollar plan).

18 Comments

by Lars Christensen on January 12, 2012 • Permalink

Posted in Austrian economics, Banking crisis, Ben Bernanke, Exchange rate policy, Federal Reserve, Irving Fisher, Lars E. O. Svensson, Liquidity trap, MM Research agenda, Monetary institutions, Monetary policy, Monetary policy rules, NGDP Targeting, Nominal Income Targeting, Reading recommendations, Transmission mechanism

Tagged Ben Bernanke, Credit channel, Lars E. O. Svensson, Liquidity trap

Posted by Lars Christensen on January 12, 2012

https://marketmonetarist.com/2012/01/12/forget-about-the-credit-channel/

Insufficient powers of (European) central banks

Here is Ben Bernanke and Harold James (1991) on “Insufficient powers of (European) central banks”:

“An important institutional feature of the interwar gold standard is that, for a majority of the important continental European central banks, open market operations were not permitted or were severely restricted. This limitation on central bank powers was usually the result of the stabilization programs of the early and mid 1920s. By prohibiting central banks from holding or dealing in significant quantities of government securities, and thus making monetization of deficits more difficult, the architects of the stabilizations hoped to prevent future inflation. This forced the central banks to rely on discount policy (the terms at which they would make loans to commercial banks) as the principal means of affecting the domestic money supply. However, in a number of countries the major commercial banks borrowed very infrequently from the central banks, implying that except in crisis periods the central bank’s control over the money supply might be quite weak.”

I wonder whether Ben Bernanke is having the same unpleasant feeling of déjà vu as I am having and what he plans to do about – because apparently nobody in Europe studied economic history.

“Fed greatly destabilized the U.S. economy”

As the European crisis just gets worse and worse I am reminded by what a clever man once said – he is that clever man Ben Bernanke in 2004:

“Some important lessons emerge from the story. One lesson is that ideas are critical. The gold standard orthodoxy, the adherence of some Federal Reserve policymakers to the liquidationist thesis, and the incorrect view that low nominal interest rates necessarily signaled monetary ease, all led policymakers astray, with disastrous consequences. We should not underestimate the need for careful research and analysis in guiding policy. Another lesson is that central banks and other governmental agencies have an important responsibility to maintain financial stability. The banking crises of the 1930s, both in the United States and abroad, were a significant source of output declines, both through their effects on money supplies and on credit supplies. Finally, perhaps the most important lesson of all is that price stability should be a key objective of monetary policy. By allowing persistent declines in the money supply and in the price level, the Federal Reserve of the late 1920s and 1930s greatly destabilized the U.S. economy and, through the workings of the gold standard, the economies of many other nations as well.”

I wonder what he is thinking of his colleagues in the ECB and about his own responsibilities today.

2 Comments

by Lars Christensen on November 16, 2011 • Permalink

Posted in Banking crisis, Deflation, Economic and monetary history, Federal Reserve, Gold Standard, Monetary policy, The Great Depression

Tagged Ben Bernanke, Great Depression

Posted by Lars Christensen on November 16, 2011

https://marketmonetarist.com/2011/11/16/fed-greatly-destabilized-the-u-s-economy/

George Selgin on Bernanke and NGDP targeting

Bill Woolsey has comment on Fed governor Ben Bernanke’s comment’s yesterday regarding NGDP targeting.

Here is what Bernanke said:

“So the fed’s mandate is, of course, a dual mandate. We have a mandate for both employment and for price stability. And we have a framework in place that allows us to communicate and to think about the two sides of that mandate. We talked yesterday about nominal GDP as an indicator, as an information variable, something to add to the list of variables that we think about. And it was a very interesting discussion. However, we think that within the existing framework that we have, which looks at both sides of the mandate, not just some combination of the two, we can communicate whatever we need to communicate about future monetary policy. So we are not contemplating at this time any radical change in framework. We are going to stay within the dual mandate approach that we’ve been using until this point.”

George Selgin who is one of the pioneers of NGDP targeting – even though we all know George prefers Free Banking – has a comment on Bill’s blog. I think George’s comment make a lot of sense:

“Right. BB doesn’t get it: nominal spending isn’t an indicator to be used in helping the Fed to regulate P and y. It is itself the very thing the Fed ought to regulate. The idea that Py is some sort of composite of two more “fundamental” variables, where the Fed is supposed to be concerned with the stability of each, is a crude fallacy. Neither stability of y nor that of P is desirable per se. Stability of Py, on the other hand–which is to say stability of nominal aggregate demand–is desirable in itself.”

Right on George! (for those not schooled in econ lingo P is prices and y is real GDP and Py obviously is nominal GDP).

9 Comments

by Lars Christensen on November 3, 2011 • Permalink

Posted in Federal Reserve, Free Banking, George Selgin, Monetary institutions, Monetary policy, Monetary policy rules, NGDP Targeting, Nominal Income Targeting

Tagged Ben Bernanke, Federal Reserve, Free Banking, George Selgin, Market Monetarism, Market Monetarist, NGDP Targeting, Nominal Income Targeting

Posted by Lars Christensen on November 3, 2011

https://marketmonetarist.com/2011/11/03/george-selgin-on-bernanke-and-ngdp-targeting/

Needed: Rooseveltian Resolve

Here is Ben Bernanke (in 1999):

Needed: Rooseveltian Resolve
Franklin D. Roosevelt was elected President of the United States in 1932 with the mandate to get the country out of the Depression. In the end, the most effective actions he took were the same that Japan needs to take—- namely, rehabilitation of the banking system and devaluation of the currency to promote monetary easing. But Roosevelt’s specific policy actions were, I think, less important than his willingness to be aggressive and to experiment—-in short, to do whatever was necessary to get the country moving again. Many of his policies did not work as intended, but in the end FDR deserves great credit for having the courage to abandon failed paradigms and to do what needed to be done. Japan is not in a Great Depression by any means, but its economy has operated below potential for nearly a decade. Nor is it by any means clear that recovery is imminent. Policy options exist that could greatly reduce these losses. Why isn’t more happening?

To this outsider, at least, Japanese monetary policy seems paralyzed, with a paralysis that is largely self-induced. Most striking is the apparent unwillingness of the monetary authorities to experiment, to try anything that isn’t absolutely guaranteed to work. Perhaps it’s time for some Rooseveltian resolve in Japan.

——

I got this quote from Bernanke’s 1999 paper “Japanese Monetary Policy: A Case of Self-Induced Paralysis?” – or rather David Bechworth has a great post on Bernanke’s paper and that got me reading. I knew the paper, but didn’t remember how powerful it actually was. Try replace “Japan” with “USA” in the paper and you will see a very strong Bernankian critique of Bernanke.

Thanks for David for alerting me and his many other readers to this great paper.

PS: As I finnish writing this I realised that Scott Sumner in fact wrote the same story (and I guess Marcus Nunes had alerted him to the Bernanke paper).

11 Comments

by Lars Christensen on November 1, 2011 • Permalink

Posted in Japan, Reading recommendations

Tagged Ben Bernanke, David Beckworth, Japan, Market Monetarism, Market Monetarist

Posted by Lars Christensen on November 1, 2011

https://marketmonetarist.com/2011/11/01/needed-rooseveltian-resolve/

“Bernanke invites Scott Sumner for lunch”

“Oct. 31 (Boomberg) US stock market closed sharply up after the Federal Reserve Bank announced that Federal Reserve chairman Ben Bernanke has invited Bentley University economics professor and advocate of nominal GDP targeting Scott Sumner for lunch at the prestigious Washington D.C. restauran Skærmbillede 2017-06-16 kl. 15.38.15

FOMC 7-11.png FOMC 2-6.png FOMC 1.png Skærmbillede 2017-06-16 kl. 15.38.15 t CityZen.

Unnamed officials at the Federal Reserve said that chairman Bernanke ‘wanted to pick Dr. Sumner’s brain on monetary matters’. Dr. Sumner declined an interview, but at his blog http://www.moneyillusion.com he asked readers ‘What do you wear when you go out for lunch in Washington DC?’

The news of the scheduled lunch between chairman Bernanke and Dr. Sumner sparked a sharp sell-off in US treasury bonds and 30-year bond yields were up more than 30 basis points in today’s trading.

The US dollar was the worst performing currency of 52 currencies that Boomberg tracks losing more than 4% against the euro on the day. “

Okay this is all a complete fabrication and there is no “Boomberg” news agency, but imagine that this story was really. Would the market react like this? I think it fundamentally would – I no clue about the size of the market direction, but I am pretty sure about the direction.

This illustrates a point that Scott himself has made over and over again: Monetary policy works with long and variable leads.

If Bernanke indeed had invited Scott for lunch and it was made public then it is pretty certain that it would trigger market expectations of what direction Fed policy was going. So in a sense Bernanke can loosen monetary policy by inviting Scott for lunch. Obviously any market reaction would obviously be based on expectations of what direction the thinking of Ben Bernanke was heading and if the Federal Reserve then failed to deliver the markets would just conclude – well, this Scott is nice to hangout with but it is not changing Fed’s policy so the market impact should be revised and gone would be any impact on the future path for NGDP of Scott’s and Ben’s nice lunch.

I nonetheless dare chairman Bernanke to invite Scott for lunch…(Scott do you have the proper outfit for lunch at CityZen?)

UNRELATED UPDATE April 2017

Skærmbillede 2017-08-10 kl. 22.51.29.png