The dot plot is an estimation by Fed participants of the path of future rate hikes. Powell is concerned about the plot. After all it has been practically useless.
Powell talked at length about dots in his speech on Friday Monetary Policy: Normalization and the Road Ahead.
As readers of the FOMC minutes will know, at our last meeting in January there was an impromptu discussion among some participants of general concerns about the dots. My own view is that, if properly understood, the dot plot can be a constructive element of comprehensive policy communication. Let me follow my two predecessors as Chair in attempting to advance that proper understanding.
Each participant’s dots reflect that participant’s view of the policy that would be appropriate in the scenario that he or she sees as most likely. As someone who has filled out an SEP projection 27 times over the last seven years, I can say that there are times when I feel that something like the “most likely” scenario I write down is, indeed, reasonably likely to happen. At other times, when uncertainty around the outlook is unusually high, I dutifully write down what I see as the appropriate funds rate path in the most likely scenario, but I do so aware that this projection may be easily misinterpreted, for what is “most likely” may not be particularly likely. Very different scenarios may be similarly likely. Further, at times downside risks may deserve significant weight in policy deliberations. In short, as Chairman Bernanke explained, the SEP projections are merely “inputs” to policy that do not convey “the risks, the uncertainties, all the things that inform our collective judgment.”
Effectively conveying our views about risks and their role in policy projections can be challenging at times, and we are always looking for ways to improve our communications. I have asked the communications subcommittee of the FOMC to explore ways in which we can more effectively communicate about the role of the rate projections. For now, let me leave you with a cautionary tale about focusing too much on dots. Here is a picture composed of different colored dots (figure 2). The meaning of it is not clear, although if you stare at it long enough you might see a pattern. But let’s take a step back (figure 3). As you can see, if you are too focused on a few dots, you may miss the larger picture.
Dot Plot Figure Three
Obvious Problem
The obvious problem is the Fed’s dot plot looks nothing like either. And it has been hugely wrong.
The reason is obvious. The Fed has no idea what it is doing or where interest rates should be anymore than it knows how many cars GM should produce.
Concern Over Zero Bound
Moving beyond the discredited dot plot, Powell is also concerned about policy decisions when interest rates are close to zero.
When a recession comes, the Fed is likely to have less capacity to cut interest rates to stimulate the economy than in the past, suggesting that trips to the ELB [Effective Lower Bound] may be more frequent. The post-crisis period has seen many economies around the world stuck for an extended period at the ELB, with slow growth and inflation well below target. Persistently weak inflation could lead inflation expectations to drift downward, which would imply still lower interest rates, leaving even less room for central banks to cut interest rates to support the economy during a downturn. It is therefore very important for central banks to find more effective ways to battle the low-inflation syndrome that seems to accompany proximity to the ELB.
In the late 1990s, motivated by the Japanese experience with deflation and sluggish economic performance, economists began developing the argument that a central bank might substantially reduce the economic costs of ELB spells by adopting a makeup strategy.9 The simplest version goes like this: If a spell with interest rates near the ELB leads to a persistent shortfall of inflation relative to the central bank’s goal, once the ELB spell ends, the central bank would deliberately make up for the lost inflation by stimulating the economy and temporarily pushing inflation modestly above the target. In standard macroeconomic models, if households and businesses are confident that this future inflationary stimulus will be coming, that prospect will promote anticipatory consumption and investment. This can substantially reduce the economic costs of ELB spells. Researchers have suggested many variations on makeup strategies. For example, the central bank could target average inflation over time, implying that misses on either side of the target would be offset.
By the time of the crisis, there was a well-established body of model-based research suggesting that some kind of makeup policy could be beneficial. In light of this research, one might ask why the Fed and other major central banks chose not to pursue such a policy. The answer lies in the uncertain distance between models and reality. For makeup strategies to achieve their stabilizing benefits, households and businesses must be quite confident that the “makeup stimulus” is really coming. This confidence is what prompts them to raise spending and investment in the midst of a downturn. In models, confidence in the policy is merely an assumption. In practice, when policymakers considered these policies in the wake of the crisis, they had major questions about whether a central bank’s promise of good times to come would have moved the hearts, minds, and pocketbooks of the public. Part of the problem is that when the time comes to deliver the inflationary stimulus, that policy is likely to be unpopular–what is known as the time consistency problem in economics.
Two Mistakes Better Than One
In the above paragraphs, Powell discusses a possible need to purposely err in the opposite direction if the Fed cannot hit its inflation target.
In short the Fed says two mistakes may be better than one.
I believe the average third grader could understand the complete silliness of such a discussion, but economic wizards live in Fantasyland where normal observations occur.
Instead of discussing such obvious silliness, the Fed ought to step back and consider a simple set of facts.
Four Simple Facts
- There is no economic benefit to inflation.
- Even if there was a benefit, there is no way to know what the target should be. Why 2% and not 1% or 0%?
- Even if one could magically divine a proper target, the Fed would be constantly chasing its tail playing catch up top the markets.
- Finally, there is no way to properly measure inflation in the fist place because the Fed does not see asset bubbles as the direct result of its inflation policy.
Repeated bubble blowing episodes that benefit only the bankers and asset holders is proof enough of how piss poor Central bank policy has become.
My Challenge to Keynesians “Prove Rising Prices Provide an Overall Economic Benefit” has gone unanswered.
Also note that the BIS did a historical study and found routine deflation was not any problem at all.
“Deflation may actually boost output. Lower prices increase real incomes and wealth. And they may also make export goods more competitive,” stated the BIS.
It’s asset bubble deflation that is damaging. When asset bubbles burst, debt deflation results.
Central banks’ seriously misguided attempts to defeat routine consumer price deflation is what fuels the destructive asset bubbles that eventually collapse.
For a discussion of the BIS study, please see Historical Perspective on CPI Deflations: How Damaging are They?
Mike “Mish” Shedlock
Read “Fed Up”, author… Booth. Won’t regret.
As one who is generally bemused by people’s constant complaints about the Fed, I finally have reached the conclusion that some some inexplicable reason, some people think that the objective of the Fed is to help them. Remember that the Fed is owned by banks, and is a part of the banking system. Although the Chairman is appointed by the President, the Fed is NOT a part of government. It owes no duty to the general population. It’s objective is to maintain an orderly financial system because an orderly financial system is beneficial to banks.
Mish often argues that there is no benefit to inflation. Is there no benefit? Is there harm to deflation? If you were looking at consumers, Mish would be correct, but it isn’t the job of the Fed to do that. If you are looking at it from the perspective of banks, as the Fed is, there is a clear benefit to banks from slight inflation, and a clear harm from deflation. Inflation causes asset values to rise, and assets are the collateral that banks use to secure their loans. In a slightly inflationary world, loans are less risky. In a deflationary environment, collateral falls in value, and loans are more risky.
What is tragic, is the gullibles who repeatedly keep voting, to keep this single purpose benefit-banks-at-the-expense-of-everyone-else, institution from being taken out back and replaced by a bomb crater yesterday.
Spot on. When politicians are caught doing things that are not good for the people, too many people call them “stupid” when the truth is that it’s mission accomplished. They are con men. When a con man is ripping you off and you fall back on Occam’s razor in order to keep your head in the sand about the real nature of the person then all you are doing is encouraging the growth of the con. George Carlin was spot on: they, in his own words, don’t give a fuck about you “AT ALL. AT ALL. AT ALL.”
And I would add to George’s words that only a child cannot see it.
See, I don’t think they are con men. I think they are just doing what their job is. It’s just that there is a myth out there that their job is something different. Their agenda is not necessarily bad for people, but it’s not necessarily good for them, either.
Your answer can only come from a Bankster or his/her crony! Look at the millions of people suffering b/c the banks fail to follow basic rules of Lending: Fiduciary duty and Due diligenc!
I find your reply offensive. I consider the term “Bankster” to be racist and anti-semitic, since I have never heard it applied to anyone but Jewish bankers. I am neither, but that doesn’t make it any less offensive. I have dealt with bankers for 40 years, and I have never worked with one that was not honest and hard working.
As for the Fed, I have no love for it, nor hate. It is what it is, but what it is is not what most people think it is. What it is is a part of the banking system. What it is not is a branch of government.
Their agenda is either beneficial to the people or its not. If they are not benefiting something somehow, why suffer them to breathe? Your statement offends me because it implies you think I’m actually stupid enough to listen to your kind of “nothing to see here” logic when clearly the banks are gaming the fake money supply in the biggest con ever played on humanity. Look at the wealth divide where elite make way too much that they didn’t actually do enough work to earn and poor people who do something useful like labor in the sun to put roofs on houses barely make enough to get by and have no chance of saving for retirement. It’s a con job. Only a child does not see it as such. Are you a child?
The prices of assets have clearly increased greatly due to low interest rates, something that a purist definition of inflation (money supply) or an artificial definition as practiced by the Fed, would deny. But reality is reality. We have had real world inflation for quite a while.
The central bank was made to help banks and banks alone. C.B.s enslave the world and take the profits
“…And they don’t give a f**k about you. They don’t care. At all.”
For some reason I read the complete article…mostly because Mish posts informative and concise analysis…but…I almost stopped in the first paragraph at this point, “Let me follow my two predecessors as Chair in attempting to advance that proper understanding.”
Powell: “Part of the problem is that when the time comes to deliver the inflationary stimulus, that policy is likely to be unpopular–”
Translation: A policy of ‘we will steal greater and greater amounts of savings until confidence improves’ is likely to be unpopular.
You don’t say?
The fed has no business setting interest rates it should be done in the free market. Correct they are clueless elitists.
Wait, did Jerome Powell play Cameron in Ferris Bueller’s Day Off? He’s been obsessed with those same dots since the ’80s.
Maybe he hated his dad’s Ferrari so much that he worked to create a future where nearly all Americans would be too poor to ever afford one!
Mish – I think if you change the view of monetary policy from that of a quai-science to that of a religion what he is doing makes perfect sense. JP has set himself in a role (whether he realizes it or not) as a high priest. High priests tell their flocks how they should behave and assure them if they do they will all get to the promised land. They have absolutely no basis for the assurance, but they nevertheless need to continue the narrative or the flock loses faith. I think what JP and the Fed are doing now is equivalent to religious practice. I think the thought of the financial world or especially the man in the street losing faith in the effectiveness of the Fed (in spite of the fact that there is no evidence to show it’s effective) is a terrifying prospect to the banksters and the politicians. When faith breaks down caos is next. But as Dennis Miller used to say, I could be wrong.
That’s the most precise definition of “Central Banking” I have ever come across! Just perfect!
High priests of a cult. Not a religion. Big difference.
Religions differ from cults, in that Religions have been around long enough, and been practiced widely enough, that obvious nonsense has had time to come to the fore. Forcing the Religions have either adapted to reality, or seen their adherents leave for less obviously nonsensical ones.
With the result that religions are highly unlikely to be dead wrong about absolutely every single little thing. Progressivism, otoh, with it’s blind, uncritical, childish faith in the existence of “experts” on all facets of the lives of others; still hasn’t been exposed to full cycle reality. At least not this time around. It did so in Rome, Greece and other eras.
IOW, it’s still in the cult phase. Where high priests can get away with abject nonsense under guise of such drivel as “in the long term we’re all dead.” In time, it too will be overran, its vapid adherents subsumed, by one religion or another. simply because Religions, merely by virtue of having gone from being cults to religions, make at least some sense. As opposed to absolutely none at all.