Do you believe in magic?

In a recent post, Scott Sumner claims that the Fed can easily credibly commit to a nominal GDP target. He further claims that the act of choosing the target in itself would allow the Fed to hit the target without any great amount of monetary expansion:

"The Fed has plenty of credibility, that’s not the problem. The problem is that they are using the credibility to assure investors that low inflation is here to stay. With the right target, there would probably be no need for massive quantitative easing, or other extraordinary policies.

The punch line is that the problem isn’t the Fed’s unwillingness to do enough QE, twists, or cuts in IOR, the problem is the Fed’s inadequate target, just like in Japan."

In other words, the Fed can credibly commit to arbitrary future policies so well that a simple announcement of a new policy path will put the economy on that path without any heavy lifting required.

In other other words, magic!

People, the Fed has no ability to make credible commitment to future policies that might conflict with their period by period preferences! Read Kydland & Prescott. Read Barro & Gordon. Repeat after me: time inconsistency, time inconsistency, time inconsistency.

All the Fed can do is act each period according to its own preferences (yes it's weird to treat the Fed as a unitary actor given all the dissents we've seen recently, sorry).

Many societies have responded to this dilemma by invoking the Rogoff gambit; we appoint conservative central bankers. They deliver low inflation not because they are following some policy rule or pre-determined path, but because their preference is for low inflation!

The idea that there's a magic bullet out there that solves our economic problems, that the Fed could fix things by putting out a press release with a couple sentences about their plans for future NGDP growth, is wrong and somewhat dangerous.