James Bullard of the St Louis Fed has embraced the postnormal economics of our time:
FOUR times a year the meeting of the Federal Open Market Committee, the Federal Reserve board that sets monetary policy, concludes with a special flourish: a press conference, and the publication of the members’ economic projections. The latter includes a “dot plot” which shows how members think rates will unfold over the next few years. When the new dots were released at the end of the June meeting, on the 15th, it quickly became clear that one was not like the others. FOMC members overwhelmingly see the Fed’s main interest rate rising to between 1% and 2% in 2017, then on to between 2% and 3% in 2018: all of them, that is, except one. That oddball member projected the interest rate would stay right about where it is now over the next two years. When the projections dropped, Fed watchers immediately speculated about just which member had turned super-dovish (or super pessimistic).
Two days later, all was revealed. The anomalous dots belonged to James Bullard, the president of the Federal Reserve Bank of St Louis, and traditionally a bit of a hawk. But Mr Bullard’s dots represent something more interesting than a simple shift in the outlook for the economy. As he made clear in two statements published on June 17th, his whole way of thinking about monetary policy in the economy has changed.
Mr Bullard begins by noting that the Fed seems to have more or less succeeded in achieving its mandates. The unemployment rate, at 4.7%, is about as low as it ever gets. Meanwhile, inflation is close to returning to the Fed’s 2% target. Growth is plodding along in steady fashion. And yet this is all occurring against a policy backdrop that remains wildly out of the ordinary, at least by pre-crisis standards. The Fed’s main interest rate is barely above zero (and has plumbed such depths for the last eight years). The Fed’s balance sheet remains at the enormous size to which it grew during multiple quantitative-easing operations. And the Fed is promising to raise rates only very, very gradually. Monetary policy, as the central bank constantly insists, is highly accommodative. And yet the economy is behaving like it is coasting along the gentlest of downward slopes.
One could interpret this puzzling outcome in a few ways. Mr Bullard sees it as evidence that the economy does not converge toward some steady state, “normal” condition, in which interest rates sit at a comfortable 4% or so. The idea that eventually the natural processes of the economy will support “lift off” and “normalisation” is wrong, he thinks.
Instead, there are many stable regimes in which an economy can land, he reckons, and which can be stable until some shock comes along to push it out. Right now, the American economy is in a low growth, low inflation, low interest-rate regime. It has been stuck there for years, even as the Fed’s published projections suggest that a rise back to “normal” rates is just over the horizon. Mr Bullard is effectively saying: let’s dispense with that fantasy.
Dispensing with the fantasy of normality: embrace the postnormal.
The first, described as the St Louis Fed’s new characterisation of the economy, is here. In it, Mr Bullard says that there can be multiple productivity regimes—low and high, for instance, corresponding to slower or faster trend growth—but that the Fed has no way to predict when a move from one to another will occur (and should not try to in making its projections). There can also be multiple real interest rate regimes, based on things like the supply and demand for capital and the liquidity premium on safe assets. The interest-rate regime also seems to be persistent, with switches that can’t easily be predicted. For the economy to look wildly different from its current state, one of those two factors, productivity and real interest rates, would need to flip to some new regime. But they probably won’t, Mr Bullard says, and so the economy probably won’t look wildly different.
Sounds like a strange attractor in complexity theory, something many financial analysts have zero grounding in. I’ll be digging into his report for more meat.
from Stowe Boyd http://www.stoweboyd.com/post/146309924387
