Friday, October 19, 2007

News Flash: Fed Guy defends Fed

In yesterday's WSJ, Harvey Rosenblum, the director of research of the Dallas Fed vigorously defended the FOMC from the charge of creating moral hazard with a novel argument:

The Federal Reserve does not conduct monetary policy to influence stock prices, regardless of whether the stock market is rising or falling. The Fed does, however, try to create the macroeconomic stability needed to achieve its mandates -- and this is where Mr. Taylor's work comes in. Over the past couple of decades, the FOMC's interest-rate behavior has been replicated closely by a forward- looking Taylor Rule, developed by my Dallas Fed colleague Evan Koenig.

Now Evan Koenig is a good guy, and I don't have any beef with him, and maybe there is some kind of verision of a Taylor rule that the Fed could be said to be following (I couldn't find any articles with Taylor Rule in the title on Koenig's vita), but the Fed has never announced or committed to following a Taylor Rule, and certainly they don't always/often follow Taylor's version of the Taylor Rule.

I've used this graph before, but here is the Fed funds rate under Alan Greenspan from 2001-2005 compared to the ideal rate setting from the classic Taylor Rule:

I don't see much chance that using forward looking variables can rescue this performance. In any event, Mr. Rosenblum offers us nothing other than his indignation as proof. No references, no graphs, no data.

He does emphatically tell us to shut up about moral hazard though:

So let's stop the complaints about moral hazard and the "Bernanke put." Who wants to be the first to volunteer to live in a world like the first quarter of the Fed's post-World War I history, when the economy was in recession over 40% of the time?

In other words: stop complaining, at least we are better than we used to be!

Maybe Mr. Rosenblum is actually lobbying for the position of postmaster-general.


ndsnow said...

I'm more skeptical than most of the Fed, but don't they have gigantic equations they use for this stuff. One dummy variable to control for some obscure condition might make this graph align perfectly.
So, why not share that with the rest of us?
Well, here's a return to skepticism... if we knew it we could predict it and hold the Fed accountable for adhering to it. They'd rather have the flexibility to act on more arbitrary motives.

Simon Spero said...

Just as a matter of curiosity, what does the graph look like if you push it back to 1998 or so?
Is there a similar chart for the ECB?
And is Free Banking the same as Free Checking?