The FOMC Narrowly Dodges Some Bad Policies: FOMC Minutes, November 1-2

The minutes from the last FOMC meeting are interesting. There was a long discussion of proposals to change Fed policymaking in some fundamental ways. The proposals were:

1. Explicit Inflation Targeting Inflation targeting is standard policy at a number of serious central banks in the world. Why not do it here?

Many participants pointed to the merits of specifying an explicit longer-run inflation goal, but it was noted that such a step could be misperceived as placing greater weight on price stability than on maximum employment; consequently, some suggested that a numerical inflation goal would need to be set forth within a context that clearly underscored the Committee's commitment to fostering both parts of its dual mandate.

I think the people making this argument are less concerned with satisfying the constraints on monetary policy set by Congress, than with using the dual mandate as an excuse to pursue active Keynesian stabilization policy. If the Fed wanted to, it could set explicit inflation targets, and argue convincingly that this kills two birds with one stone. A stable inflation rate also "promotes maximum employment." Indeed, there are even versions of New Keynesian models that can produce that result.

2. Conditional Commitment This part of the discussion seems odd. It starts with this:

As noted in the staff briefing, economic theory and model simulations suggested that a policy strategy involving such commitments could foster better macroeconomic outcomes than a discretionary approach of reoptimizing policy at every meeting, so long as the public understood the central bank's strategy and believed that policymakers would follow through on those commitments.

Note here that the notion is that the change under consideration - making conditional commitments about future policy - involves commitment vs. discretion. Later in the discussion, people are much more explicit about what they mean by conditional commitment:

In this vein, a number of participants expressed support for the possibility of clarifying the conditionality of the Committee's forward guidance about the trajectory of the federal funds rate through setting numerical thresholds for unemployment and inflation that would warrant exceptionally low levels for the policy rate.

The key point here is that, in fact, the proposal involves abandoning commitment. The current commitment involves "reoptimizing policy at each meeting," which is taking into account all the unforeseen circumstances that occurred since the last FOMC meeting. Conditional commitment is bad commitment, as we cannot commit conditionally to a policy response to an event that is not foreseen. Such events can in practice swamp everything else. Committing to a policy of reoptimizing at each meeting is in fact good commitment.

3. Nominal GDP/Price Level Targeting Here's the discussion:

The staff presented model simulations that suggested that nominal GDP targeting could, in principle, be helpful in promoting a stronger economic recovery in a context of longer-run price stability. Other simulations suggested that the single-minded pursuit of a price-level target would not be very effective in fostering maximum sustainable employment; it was noted, however, that price-level targeting where the central bank maintained flexibility to stabilize economic activity over the short term could generate economic outcomes that would be more consistent with the dual mandate.

The key question is what model the staff was using. Most likely it was the FRB US Model. If so, this is bogus. As members of the public, we cannot look at this model, but you can find bits and pieces of it in Fed publications. While there are words in those publications that might make you think this model might have some connection to any macroeconomics done post-1970, I don't think so. Best guess is that the FRB US model looks like the typical expanded IS-LM macroeconometric models developed pre-1970. If so, we can't take it seriously. Who cares if NGDP targeting "works" and price-level targeting does not, in that context? Get serious. See my post on NGDP targeting.

In any case, the FOMC decided not to take action on any of these proposals for now. There are some bad ideas floating around though, so beware.