Sunday, January 10, 2016

It isn't obvious inflation is under the control of central banks

Scott Sumner and Antonio Fatas think the BIS has a crazy view of inflation. If you think that central banks can achieve any amount of inflation they desire, I agree this exchange would seem crazy:
Inflation is only 0.2% in Europe and 0.5% in the US, although the central banks are doing everything in their power to drive it up to 2%. What's going wrong? 
Inflation is not only a domestic and short-term phenomenon - the kind of phenomenon monetary policy can influence. Inflation also depends on global and long-term factors. The most important story is global. Ultimately, inflation is falling nearly everywhere in the world.

Of course, Sumner basically has to believe that even though the Fed says it wants inflation to head towards its goal of 2% (and will do so) [1], it doesn't really mean it. So I'm not sure which is crazier.

However, Hyun Song Shin (the BIS official interviewed in the link above) may be coming around to the information transfer view -- and the slow bending of the price level versus monetary base curve described in the paper.

See here fore more:

Update 12 January 2016

I find this quote from Brad DeLong kind of hilarious:

The problem is that the various BIS models do not appear to codify any form of knowledge--for as their predictions are proved false by time the responses not to adjust the framework to reality but to put forward to a new framework.
I think the idea that central banks don't seem to control inflation is exactly the sort of idea one gathers from looking at the data. Several countries (US, EU, Japan) are unable to meet their inflation targets and the problem appears to be spreading to others (Canada, Australia).

Now Brad is right: the BIS is a bit of a broken clock -- always looking for a post hoc reason to tighten monetary policy. I don't think policy should be tightened. As Hyun Song Shin seems to point out: monetary policy doesn't matter (for inflation) -- so it doesn't matter if they tighten or not. Now there are additional views from the BIS -- "loose" money leads to financial instability -- that aren't necessarily supported by the data. In fact, I think tightening might even bring on another avalanche ... like the Great Recession.


[1] FOMC statement from 16 December 2015
... Inflation is expected to rise to 2 percent over the medium term as the transitory effects of declines in energy and import prices dissipate and the labor market strengthens further. ... The Committee judges that there has been considerable improvement in labor market conditions this year, and it is reasonably confident that inflation will rise, over the medium term, to its 2 percent objective.
Which obviously means they don't want inflation to rise to 2%. Plainly that means their objective is really 0.5%. How could you possibly read that some other way?


  1. Here it is only January 10 and you are already beating up on Sumner again...

    1. I'm OK with it Todd. I rather liked the Sumner posts and was a bit alarmed when Jason swore off them. Like hearing that your favorite comic is going to give up mind altering substances... you gotta wonder what's going to happen to the quality their entertainment!

    2. I thought this post was be more about what the BIS said that matches up with what I've said ... that central banks may not have unlimited ability to control inflation.

  2. You promised, Jason. Anyway, Sumner (and I) value actions, not words. The Fed has not tried to reflate the price level. IOR put paid to reserves, and tightened the monetary base drastically. Now, if the Fed liberalized physical currency, we might have some reflation. Doesn't your own work suggest that currency drives the price level? Have we seen 1940s style currency production?

    1. "Have we seen 1940s style currency production?"

      Paper money and coin? I haven't heard of any problems with ATM machines running dry.

    2. "Doesn't your own work suggest that currency drives the price level?"

      It would be more accurate to say that additional currency creates an entropic force where prices to wander into higher price states.

      But yes, it does. In fact, it does at the level of inflation we actually see, not the 2% target. For Japan and the EU as well. It is part of a trend across several countries as shown in the graph above.

      I don't see any empirically measurable predictions (or even retrodictions) coming from Sumner.

      We might see 1940s currency production if we had the pegged interest rates ...

    3. P:NGDP->M0

      ATMs? Don't be daft.

    4. ATMs: what I mean is it appears to me that production of currency closely matches demand for currency. Doesn't that imply that if production was different at another time in history, then demand for currency was likely different as well?

      This is a question I have for Jason as well: if demand for currency exceeded supply, wouldn't ATMs be running dry? If supply exceeded demand, would it really count as M0 since it'd likely be stored at the Fed (and thus not be on the Fed's balance sheet yet as a liability) waiting for a bank (whose ATMs had run dry) to buy more of it?

      It seems Jason is suggesting that a pegged interest rate could create additional demand for currency, (which production would then match). True?

    5. The statements

      1. P:NGDP ⇄ M0
      2. NGDP and M0 are in information equilibrium with detector P
      3. additional currency creates an entropic force where prices to wander into higher price states

      Are all the same thing. And they currently predict less than 2% inflation because of the NGDP-M0 path. At least in the information transfer model -- which may of course be wrong.

      Actually, < 2% inflation would have been predicted from the 1960s ...

  3. Well, I don't believe the Fed, either. The 2% inflation target was apparently dreamed up by the New Zealand CB. (Back in the 1980s I read something suggesting that 4% was about right. That would probably have worked better in the recent crisis, eh? :)) Anyway, the Fed has great entropic forces on it to continue to maintain that their target is 2%. That has about as much credibility as, "I'm fine, thank you." If they really and truly wanted higher inflation, then at some point in the last eight years they would have, as Fed President Evans said in 2011, acted as though their hair were on fire ( ). Their recent statement, which you quote, is almost a self-gratlatory pat on the back. We're finally getting there, folks. Deus Volens, OC.

    1. I read that that Janet Yellen came up with the 2% target back about 1991 or 1992 or under Greenspan. I recall somebody posting the minutes from the Fed meeting when it was discussed (perhaps it was posted on Sumner's site?) . But then, she may have been following New Zealand's lead. I don't know.

    2. I think if the target had been 4%, we just would have seen ineffective monetary policy sooner (basically, the 1990s). The dot-com bust would have caused a "great recession" ... and there might not have been a housing boom to follow it.

      But yes, 2% was just kind of made up.

    3. It sure seems like Volcker managed to reduce inflation. And haven't we had a number of CB induced recessions? The question I have is whether CBs can increase inflation, except by letting off deflationary pressure?

    4. It does seem that way, but also the oil shocks subsided.

      I do think the Fed did manage to alter the trajectory:

      Again -- it appears inflation is under control of a central bank as long as the target remains below the "upper limit":

    5. Those statements are within the ITM, of course.

  4. More on inflation, but this time it's all about forecasts:
    From Williamson (as quoted by Sumner):

    "Survey of Professional Forecasters [SPF] has predictions of PCE headline inflation for 2016 and 2017, respectively, of 1.8% and 1.9%, which is pretty close to the 2% PCE inflation target"

    Were you aware of the SPF?

    1. Yes, but an electronic form of the time series of values isn't readily available (or at least I can't find it).

      I like this quote from Sumner:

      "You might wonder why I am skeptical of the TIPS spreads ..."

      I do wonder. I thought large, liquid markets were optimal?

  5. Just an aside. :)

    DeLong: "as their predictions are proved false by time the **responses** not to adjust the framework to reality but to put forward to a new framework."

    "responses" instead of "response is"? That would be an unusual typo. Is DeLong using dictation software?

    1. Also, "forward to"? Where does that "to" come from? But the software could mishear the elision between the "d" and the "a".

  6. O/T: I notice in Sumner's latest he writes:

    "...monetary policy has always been 1% about concrete actions and 99% about signaling."

    I recall when Nick Rowe wrote almost the same thing (replacing 'signaling' with 'expectations') in a comment on another blog and your reaction was something to the effect of "he means it's 99% question begging."

    Here it is:

    But later you did a post on that comment I see.

    So basically, nothing new.


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