Monetary Policy in an Uncertain World: Ten Years After the Crisis by James A. Dorn

Author:James A. Dorn [Dorn, James A.]
Language: eng
Format: epub
Published: 0101-01-01T00:00:00+00:00

Martin Feldstein is the George F. Baker Professor of Economics at Harvard University. This article is reprinted from the Cato Journal, Vol. 38, No. 2 (Spring/Summer 2018).

1The Flow of Funds data for the second quarter of 2017 put household sector ownership of equities at $24.9 trillion. The equity value of noncorporate businesses is estimated in the Flow of Funds data to be an additional $11.8 trillion.

10

PRIORITIES ON THE PATH TO NORMALIZATION

Kevin Warsh

I was honored to serve as a governor of the Federal Reserve System during the financial crisis. The times were tough, but the institution was strong—sustained by a Fed staff that was tired and tireless, hopeful and humble, brilliant without bravado. The internal battles among its leaders were consumed by big policy questions. We were sometimes divided in our assessments. And our proffered prescriptions.

We offered differing judgments in real time and in real candor. We had contrasting views on the origins of the turmoil, the wherewithal of the government-sponsored entities, the solvency of our banking system, the appropriate burden-sharing among actors in our government, the efficacy and limitations of quantitative easing (QE), the reliability of the Fed’s dominant economic models, and the uncertainty around estimates for output and prices.

Our best days included our darkest hours. But complacency was set aside, owing to the exigencies of the circumstances. The search was for truth (as best we could measure it), not victory. And the quality and depth of debate were as large as the perils we faced.

Present Challenges

Today, the challenges to our central bank may be less urgent. But its task is no less large. So we should resist allowing the policy debate to be small or push aside ideas that depart from the prevailing consensus. The Fed’s job is not easier today, and its conclusions are not obvious.

In recent, fiercely fought public debates, inflation hawks and doves are cast into ideological corners spoiling for a fight. The political class, especially in this season, emboldens factions to caricature the opposition and reduce policy prescriptions into simplistic, sloppy slogans. Those in the community of central banks should be wary of this affront. We should not respond in kind, but rather in the spirit of that which sets these institutions apart.

A robust debate between rules and discretion has marked the monetary policy literature for generations. It should not turn into an expedient means of back-solving for a preferred policy outcome.

In recent years, some commentators and academics seek to follow fixed monetary policy rules. The dominant view, however, purports to criticize adherence to preset policy rules. Most favor reliance on policymakers’ discretion. I find it a bit puzzling, then, how to reconcile the widespread preference for policymaker discretion with the eagerness to follow a single, precise, unyielding inflation target as a key policy determinant.

The Knowledge Problem and Fed Policy

Our understanding of the macroeconomy, and the effects of extraordinary monetary policy, is decidedly imperfect. Modesty about what we know—and humility about what we do—have long shaped my views. I do not favor conducting monetary policy by fidelity to a fixed policy rule.

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