Your best work yet, Milan!! Great explainer, thanks!
Maybe I am over-simplifying, but if the previous ceiling of 2% resulted in an average inflation of 1.5, why wouldn’t they just raise the ceiling to 2.5%?
Interesting. So, I’m an engineer. When we make drawings for manufacturing, we usually put a dimension plus or minus a certain amount (“tolerance”) knowing that it’s physically impossible to precisely hit nominal. That said, the manufacturing guys will often target slightly on the “material on” side of nominal (like, a hole’s diameter is slightly smaller than nominal on the drawing) so that they have the ability to re-work the item to fit the drawing if they undershoot. If they overshoot, the part is scrap- very difficult to put material back on. Kind of like targeting slightly higher inflation due to the zero lower bound. Anyway I guess what I’m suggesting is a target of 2% +/- 0.5%. Maybe that would have been politically toxic in an era of 1.5% inflation but I think it would sound pretty good to most folks now!
Also an engineer here, and I was thinking something similar.
If the problem is that a simple "targeting an average of 2%" causes too much uncertainty for investors/markets, why not just add in a tolerance/bounding so that everyone knows that they won't oscillate severely from year to year?
"Targeting an average of 2%, with a yearly boundary of +/-0.5 or 1%"
Unless something like that would significantly reduce their flexibility in addressing weird situations? Like the one we find ourselves in now.
Sometimes I forget that we engineers are odd :) But, like, there is a whole manufacturing philosophy around this, Statistical Process Control, where you monitor a metric and can use an array of triggers to indicate that the process is drifting "out of control." Now, inflation is a bit of what we'd call a "lagging indicator." It takes time to start to see the effects of your policy changes. So it would be important to be really specific about what calculation of inflation you're tracking. The monthly year-over-year inflation number seems like a good one to track. I had to google to jog my memory, but the traditional triggers are:
-A single point outside the control limits
-Two out of three successive points are on the same side of the centerline and farther than 2 σ from it
-Four out of five successive points are on the same side of the centerline and farther than 1 σ from it
-A run of eight in a row are on the same side of the centerline. Or 10 out of 11, 12 out of 14, or 16 out of 20
-Obvious consistent or persistent patterns that suggest something unusual about your data and your process.
Another option is level targeting. Price level (or even better, nominal GDP level targeting). So if the price level is 100 today, in 5 years it should be 1.02^5 = 110.41. So each miss (over or under) is compensated for going forward. In 10 years, price level should be 121.90. Then you have to get to the 2% on average without making 2.5% a target.
Do you have an informed view of whether the Fed's decade long F---up was a fear of inflation going over 2% or a reluctance to do more QR? And either way so how did that feed into an objective function? What bad would have happened if.
Superb post, Milan. I haven’t thought about a lot of this stuff since MacroEcon in college, but it is probably some of the most important policy shaping America today.
Before I stat my dissent, let me say this is a better explanation of monetary policy than 99% of what on read on blogs, much less the next to worthless newspaper "economists."
"but if inflation is too low they can only cut rates down to zero before they run out of firepower"
That applies only to short term rates (which BTW the Fed never cut to zero ever during the Great Recession, their bad). The Fed also can also do QR, buying longer term liabilities of governments, Government backed securities like Fanny Mae, and even foreign exchange. [Some of that "can" might need to be made very explicit.] Treating the target as a ceiling was never supposed to happen. That was just the Fed mistake. [It's not clear to me, however, that THAT was the exact mistake. It's also possible that the constraint was not an inflation ceiling, but a reluctance to engage in enough QR to keep inflation at the average rate.]
I'm not sure that there was ever any conceptual ambiguity about FIAT being symmetrical, although it is very true that no one expected to see the downside come to the fore so quickly.
Part of the problem with the whole inflation discussion is lack of clarity about what inflation is FOR. It is NOT just an unfortunate result of trying to keep employment "full;" it is a WAY to keep employment (and this means employment of all the economy's resources not just labor) "full." "Full" employment requires a set of relative prices (perhaps not a unique set) that reflects all the real sources of demand and supply of the economy. When there are changes in the supply and demand, relative prices can adjust to keep employment "full." However there is a fly in this ointment; some prices are subject to formal or informal "contracts" that prevent them from adjusting downward. This is particularly the case with wages, but that's not the only case rental rates ted to fixed rate mortgages are another. So if a big change occurs (a big increase in the demand for computer chips for autos or a big increase in the international price of petroleum, or backup in US ports) AND relative prices need to change AND some absolute prices cannot go down, that means that on average prices need to go up: inflation. Too little inflation in relation the the size of the changes in relative prices needed and some markets will fail to clear: unemployment. The average target rate is (ought to be) the Fed's best guess at the average amount of inflation that is needed given the size and frequency of big changes.
Yeah, I did simplify a bit with the "run out of firepower" line. The Fed can do QE and other stuff after rates are cut to zero, but the economists I spoke to all said that those options were less effective than rate cuts and the Fed prefers not to have to resort to them.
How much of the current hubbub about inflation is just a coordinated push to deny Biden any credit for the excellent jobs numbers and the lack of cratering from COVID?
As you explain in your piece, employers and rich people hate full employment because it gives some bargaining power to labor. See Starbucks and Amazon. So, rich people drive the narrative on TV: the economy is a catastrophe. And when the rich people are also republicans, they have a second reason to try to minimize Biden's successes.
To my eyes, the current panic over inflation looks a lot like a moral panic, ie largely artificial and driven by people with an agenda.
This is such an out-of-touch comment I almost think it must be meant in jest. "It's one banana, Michael. What could it cost, ten dollars?"
We've seen negative real wage growth for almost a year, with inflation running far ahead of wage growth. Maybe that isn't true for you, but it is a real problem for the majority of Americans.
At any given time, the country faces a variety of problems, any of which could be ginned up into the panic du jour, or ignored and denied. Unemployment, crime, opioids, veteran suicides, public education, student loan debt, health care bankruptcies, roads and bridges, and on and on. Inflation is a problem like any of those; it affects millions of people. But it's effects are less severe than when millions of people are unemployed.
So, why is there silence in the press when millions are unemployed, but shrill yelps when prices go up a bit?
It's just this year's coordinated propaganda push, that's all. It's like the gay marriage panics of the Bush years. Ignore crime, ignore veteran suicides, ignore crumbling bridges, lead with inflation. We have an angle of attack on Biden and unions. Drive up the gas prices -- even though oil is making record profits -- and make the rich richer.
I don’t usually agree with John from FL - I am a card-carrying coastal elitist, after all. So I’ll put this in terms my cohort would understand: I think you need to check your privilege.
“Real” wages are falling at an incredibly fast rate (“real” in economics terms meaning “adjusted for inflation”). After a big spike at the onset of Covid, average real wages are now noticeably below where they were at the end of 2019. This is really bad.
I am willing to believe the Afghanistan withdrawal media coverage was elite driven. The inflation story, on the other hand, is a real economic issue that is getting all the attention it deserves.
If you don’t think it’s a big deal, I would posit that you are well-off enough (like me) where everything being more expensive than it was six months ago isn’t that big of a deal. But for most people it is having a very noticeable and very unpleasant impact.
The poly sci literature is very clear that voters hate- hate- inflation. They don't need to be convinced by 'media coverage', and this isn't a controversial topic with two sides to it- no serious academic is saying that actually voters don't care that much about inflation. The literature is beyond clear on this point. By definition inflation touches 100% of all people within a country's borders
Yes, exactly. Recent Pew poling shows that people care about inflation a lot. It feels condescending to attribute that to 'media coverage'. Unemployment does affect a few people a lot, but inflation does not affect 'everyone a little'. Inflation affects some people a lot. Arguably as much as unemployment.
People certainly hate inflation. And they also hate traffic congestion. The claim is that even though they hate these things and don’t have much opinion about unemployment or lack of walkability, they are actually hurt more by the latter than by the former.
Sort of like how people hate needles and don’t mind being vulnerable to deadly diseases, because the needle is very salient while the infections are just a background risk.
Strange comment. When and where crime soars people do care and politicians pay or gain accordingly (see recent NYC mayoral). Had unemployment been high that would ALSO have been bad. Healthcare is also obviously important and if people feel it’s credibly threatened they respond (2018 midterms). All these are very real things but right now people are struggling to make ends meet every time they go to the grocery store or the gas station. It’s not some elite conspiracy setting the agenda, it’s reality.
I think it's both true that the population doesn't need media coverage to heighten their fears of inflation but understand it from their lived experience *and* that the media have done a poor job of reporting what the economy in full looks like.
If we do have a soft landing, and inflation moderates at a substantially lower level, but unemployment goes up to 4.5% and mortgage rates remain above their recent historic low, I'm sure the media will maintain a laser focus on the latter two things.
I just don't think (responding to the OP) that there's much purposeful political angle on inflation in the left-wing media; they mostly want clicks. And there's even less chance of a politically motivated conspiracy led by shadowy "rich republicans".
The powerful rich tend to have business interests and stock and land that insulate them from inflation more from the middle class anyhow.
I think it’s mostly a question if rates. “Everyone” would feel high unemployment because even if not unemployed themselves they will: 1. Be increasingly likely to need to support someone who is 2. Suffer the consequences of their weakened bargaining power at the workplace 3. Suffer the social consequences of high unemployment (crime, domestic violence etc.)
Similarly, with 1980s level crime, first of all, *many* people will have had personal experiences of being victims of crime, especially those living in cities. Second , even without being a victim directly, the fear, the change in atmosphere, has enormous consequences. What you allow yourself to do or not do, where you allow your kids to go and when, your basic feeling of safety (in the genuine physical sense). There is hardly a more politically potent thing than that. In short, I think it’s easy to look down on issues such as public safety or unemployment in an age where they are relatively in good shape (esp. the latter) but let’s not forget that within living memory these issues toppled governments, fermented revolutions and (along with inflation) led to fascism and a world war.
The labor market is very hot right now which is great, but it's also the case that real wages are falling because of inflation. I get frustrated that I have to pay more to fill my tank because I can see that gas prices have gone up like $1 on the gallon since the fall every time I pass a station — that's not propaganda, it's just reading the signs.
You're probably not a renter or in a market for a new home but have you at least happened by a gas station? Bought groceries? Even a coffee from Starbucks is a fair amount higher than a year ago.
I don't say this to be mean-spirited or dismissive, but it's simply factual that denying inflation is out-of-touch.
And considering half or more or rich people, to say nothing of media members who also drive narratives, are Democrats, it's hard to see how a push could really be coordinated.
Clever interpretation, but I think the Occam’s Razor explanation feels more apt: the average American abhors higher prices and is taking the Biden admin to the woodshed for it.
One quibble: is it possible you originally wrote it back in March? The quoted line below was true then but it’s out of date now:
“the Fed raised rates by a quarter of a percentage point last week, with six more rate hikes expected in 2022.”
After raising policy rate by 0.25% in March, the Fed raised their policy rate an additional 0.5% last week, with five more meetings scheduled for the rest of 2022.
I suspect that if they hit the soft landing, and don't trigger a recession that brings inflation back to near-zero, what they will do, in effect, is go back to Bernanke-ism for 5-7 years, very-slightly under-shooting 2% for a long enough time that on a ten-year window, just before the inflation spike of '21-'22 falls out, you'll have your 2% average.
This is a solid explainer -- well done. My one quibble is the over-emphasis on clarity as a strong goal.
In my field of software engineering, I've worked for managers and organizations that fantasized about systems that would impose analogous kinds of clarity on complex systems or processes. The results were typically bleak: a lot of meetings, debate, and sometimes engineering effort to achieve very little net benefit.
Clarity, like most virtues, is good ... up to a point. For example, if one really wanted clarity, the Fed could implement a computer program that would take a variety of economic indicators and spit out the next interest rate adjustment. Most of us have read enough dystopian fiction to have a vague sense that rigid rule-based systems always, eventually fail to anticipate every possible situation.
With complex systems, you ultimately need to balance the rigidity of total clarity against the flexibility and wisdom that a decision making body of subject matter experts can bring to bear. I think we're better off with roughly as much clarity as we currently have from the Fed: general guidelines, yes, but enough ambiguity to allow experts to make decisions within those parameters.
Mathematically speaking, overshooting one year only means the Fed should undershoot the next if the window for the average is one year, which would be silly. Too long a window would also be silly because then annual changes would have little effect on that moving average. The Fed should specify a time window they’re using for their average (if they haven’t already).
Excellent piece. If I were them, I'd say two things. The pandemic was an extraordinary situation, so we're starting the new FAIT clock today. And going forward, it's symmetrical. Well, actually, I'd just say one thing. That we are now switching to 4% NGDPLT. But easy for me to say though.
Very well done post, Milan.
Indeed. Much praise!
Being able to explain complicated things in a clear way indicates a thorough grasp of the subject (and makes the reading pleasurable besides). Thanks!
Your best work yet, Milan!! Great explainer, thanks!
Maybe I am over-simplifying, but if the previous ceiling of 2% resulted in an average inflation of 1.5, why wouldn’t they just raise the ceiling to 2.5%?
What Sahm told me is that politically doing that would be dead in the water
Interesting. So, I’m an engineer. When we make drawings for manufacturing, we usually put a dimension plus or minus a certain amount (“tolerance”) knowing that it’s physically impossible to precisely hit nominal. That said, the manufacturing guys will often target slightly on the “material on” side of nominal (like, a hole’s diameter is slightly smaller than nominal on the drawing) so that they have the ability to re-work the item to fit the drawing if they undershoot. If they overshoot, the part is scrap- very difficult to put material back on. Kind of like targeting slightly higher inflation due to the zero lower bound. Anyway I guess what I’m suggesting is a target of 2% +/- 0.5%. Maybe that would have been politically toxic in an era of 1.5% inflation but I think it would sound pretty good to most folks now!
Also an engineer here, and I was thinking something similar.
If the problem is that a simple "targeting an average of 2%" causes too much uncertainty for investors/markets, why not just add in a tolerance/bounding so that everyone knows that they won't oscillate severely from year to year?
"Targeting an average of 2%, with a yearly boundary of +/-0.5 or 1%"
Unless something like that would significantly reduce their flexibility in addressing weird situations? Like the one we find ourselves in now.
Sometimes I forget that we engineers are odd :) But, like, there is a whole manufacturing philosophy around this, Statistical Process Control, where you monitor a metric and can use an array of triggers to indicate that the process is drifting "out of control." Now, inflation is a bit of what we'd call a "lagging indicator." It takes time to start to see the effects of your policy changes. So it would be important to be really specific about what calculation of inflation you're tracking. The monthly year-over-year inflation number seems like a good one to track. I had to google to jog my memory, but the traditional triggers are:
-A single point outside the control limits
-Two out of three successive points are on the same side of the centerline and farther than 2 σ from it
-Four out of five successive points are on the same side of the centerline and farther than 1 σ from it
-A run of eight in a row are on the same side of the centerline. Or 10 out of 11, 12 out of 14, or 16 out of 20
-Obvious consistent or persistent patterns that suggest something unusual about your data and your process.
Source: https://asq.org/quality-resources/control-chart
Another option is level targeting. Price level (or even better, nominal GDP level targeting). So if the price level is 100 today, in 5 years it should be 1.02^5 = 110.41. So each miss (over or under) is compensated for going forward. In 10 years, price level should be 121.90. Then you have to get to the 2% on average without making 2.5% a target.
But did Sahm like it?
Do you have an informed view of whether the Fed's decade long F---up was a fear of inflation going over 2% or a reluctance to do more QR? And either way so how did that feed into an objective function? What bad would have happened if.
Excellent, balanced post about a thorny and technically complex issue. Thanks Milan! Great work.
Excellent post.
Superb post, Milan. I haven’t thought about a lot of this stuff since MacroEcon in college, but it is probably some of the most important policy shaping America today.
Before I stat my dissent, let me say this is a better explanation of monetary policy than 99% of what on read on blogs, much less the next to worthless newspaper "economists."
"but if inflation is too low they can only cut rates down to zero before they run out of firepower"
That applies only to short term rates (which BTW the Fed never cut to zero ever during the Great Recession, their bad). The Fed also can also do QR, buying longer term liabilities of governments, Government backed securities like Fanny Mae, and even foreign exchange. [Some of that "can" might need to be made very explicit.] Treating the target as a ceiling was never supposed to happen. That was just the Fed mistake. [It's not clear to me, however, that THAT was the exact mistake. It's also possible that the constraint was not an inflation ceiling, but a reluctance to engage in enough QR to keep inflation at the average rate.]
I'm not sure that there was ever any conceptual ambiguity about FIAT being symmetrical, although it is very true that no one expected to see the downside come to the fore so quickly.
Part of the problem with the whole inflation discussion is lack of clarity about what inflation is FOR. It is NOT just an unfortunate result of trying to keep employment "full;" it is a WAY to keep employment (and this means employment of all the economy's resources not just labor) "full." "Full" employment requires a set of relative prices (perhaps not a unique set) that reflects all the real sources of demand and supply of the economy. When there are changes in the supply and demand, relative prices can adjust to keep employment "full." However there is a fly in this ointment; some prices are subject to formal or informal "contracts" that prevent them from adjusting downward. This is particularly the case with wages, but that's not the only case rental rates ted to fixed rate mortgages are another. So if a big change occurs (a big increase in the demand for computer chips for autos or a big increase in the international price of petroleum, or backup in US ports) AND relative prices need to change AND some absolute prices cannot go down, that means that on average prices need to go up: inflation. Too little inflation in relation the the size of the changes in relative prices needed and some markets will fail to clear: unemployment. The average target rate is (ought to be) the Fed's best guess at the average amount of inflation that is needed given the size and frequency of big changes.
Yeah, I did simplify a bit with the "run out of firepower" line. The Fed can do QE and other stuff after rates are cut to zero, but the economists I spoke to all said that those options were less effective than rate cuts and the Fed prefers not to have to resort to them.
Yes, and that "preference" got us a decade of below target inflation and an excruciatingly slow recovery from the 2008 crisis.
How much of the current hubbub about inflation is just a coordinated push to deny Biden any credit for the excellent jobs numbers and the lack of cratering from COVID?
As you explain in your piece, employers and rich people hate full employment because it gives some bargaining power to labor. See Starbucks and Amazon. So, rich people drive the narrative on TV: the economy is a catastrophe. And when the rich people are also republicans, they have a second reason to try to minimize Biden's successes.
To my eyes, the current panic over inflation looks a lot like a moral panic, ie largely artificial and driven by people with an agenda.
This is such an out-of-touch comment I almost think it must be meant in jest. "It's one banana, Michael. What could it cost, ten dollars?"
We've seen negative real wage growth for almost a year, with inflation running far ahead of wage growth. Maybe that isn't true for you, but it is a real problem for the majority of Americans.
At any given time, the country faces a variety of problems, any of which could be ginned up into the panic du jour, or ignored and denied. Unemployment, crime, opioids, veteran suicides, public education, student loan debt, health care bankruptcies, roads and bridges, and on and on. Inflation is a problem like any of those; it affects millions of people. But it's effects are less severe than when millions of people are unemployed.
So, why is there silence in the press when millions are unemployed, but shrill yelps when prices go up a bit?
It's just this year's coordinated propaganda push, that's all. It's like the gay marriage panics of the Bush years. Ignore crime, ignore veteran suicides, ignore crumbling bridges, lead with inflation. We have an angle of attack on Biden and unions. Drive up the gas prices -- even though oil is making record profits -- and make the rich richer.
I don’t usually agree with John from FL - I am a card-carrying coastal elitist, after all. So I’ll put this in terms my cohort would understand: I think you need to check your privilege.
“Real” wages are falling at an incredibly fast rate (“real” in economics terms meaning “adjusted for inflation”). After a big spike at the onset of Covid, average real wages are now noticeably below where they were at the end of 2019. This is really bad.
I am willing to believe the Afghanistan withdrawal media coverage was elite driven. The inflation story, on the other hand, is a real economic issue that is getting all the attention it deserves.
If you don’t think it’s a big deal, I would posit that you are well-off enough (like me) where everything being more expensive than it was six months ago isn’t that big of a deal. But for most people it is having a very noticeable and very unpleasant impact.
The poly sci literature is very clear that voters hate- hate- inflation. They don't need to be convinced by 'media coverage', and this isn't a controversial topic with two sides to it- no serious academic is saying that actually voters don't care that much about inflation. The literature is beyond clear on this point. By definition inflation touches 100% of all people within a country's borders
Yes, exactly. Recent Pew poling shows that people care about inflation a lot. It feels condescending to attribute that to 'media coverage'. Unemployment does affect a few people a lot, but inflation does not affect 'everyone a little'. Inflation affects some people a lot. Arguably as much as unemployment.
People certainly hate inflation. And they also hate traffic congestion. The claim is that even though they hate these things and don’t have much opinion about unemployment or lack of walkability, they are actually hurt more by the latter than by the former.
Sort of like how people hate needles and don’t mind being vulnerable to deadly diseases, because the needle is very salient while the infections are just a background risk.
Strange comment. When and where crime soars people do care and politicians pay or gain accordingly (see recent NYC mayoral). Had unemployment been high that would ALSO have been bad. Healthcare is also obviously important and if people feel it’s credibly threatened they respond (2018 midterms). All these are very real things but right now people are struggling to make ends meet every time they go to the grocery store or the gas station. It’s not some elite conspiracy setting the agenda, it’s reality.
Your contention is that the left wing press is trying to sink Biden by covering inflation too much?
They love having something they can yell at Biden about because they really like to seem even-handed.
I think it's both true that the population doesn't need media coverage to heighten their fears of inflation but understand it from their lived experience *and* that the media have done a poor job of reporting what the economy in full looks like.
If we do have a soft landing, and inflation moderates at a substantially lower level, but unemployment goes up to 4.5% and mortgage rates remain above their recent historic low, I'm sure the media will maintain a laser focus on the latter two things.
I think that's very fair.
I just don't think (responding to the OP) that there's much purposeful political angle on inflation in the left-wing media; they mostly want clicks. And there's even less chance of a politically motivated conspiracy led by shadowy "rich republicans".
The powerful rich tend to have business interests and stock and land that insulate them from inflation more from the middle class anyhow.
Sure.
I think that the media simply have taken the idea that bad news roolz a little too fanatically.
They did that with some of Trump's lesser scandals too.
“…even though oil is making record profit…”
Prove it.
I think it’s mostly a question if rates. “Everyone” would feel high unemployment because even if not unemployed themselves they will: 1. Be increasingly likely to need to support someone who is 2. Suffer the consequences of their weakened bargaining power at the workplace 3. Suffer the social consequences of high unemployment (crime, domestic violence etc.)
Similarly, with 1980s level crime, first of all, *many* people will have had personal experiences of being victims of crime, especially those living in cities. Second , even without being a victim directly, the fear, the change in atmosphere, has enormous consequences. What you allow yourself to do or not do, where you allow your kids to go and when, your basic feeling of safety (in the genuine physical sense). There is hardly a more politically potent thing than that. In short, I think it’s easy to look down on issues such as public safety or unemployment in an age where they are relatively in good shape (esp. the latter) but let’s not forget that within living memory these issues toppled governments, fermented revolutions and (along with inflation) led to fascism and a world war.
And real wage growth was not so great for about a decade while the Fed was allowing inflation to undershoot it's supposed target.
My explanation is that unemployment is something that mainly happens to other people but everybody notices inflation.
John is right on point.
The labor market is very hot right now which is great, but it's also the case that real wages are falling because of inflation. I get frustrated that I have to pay more to fill my tank because I can see that gas prices have gone up like $1 on the gallon since the fall every time I pass a station — that's not propaganda, it's just reading the signs.
You're probably not a renter or in a market for a new home but have you at least happened by a gas station? Bought groceries? Even a coffee from Starbucks is a fair amount higher than a year ago.
I don't say this to be mean-spirited or dismissive, but it's simply factual that denying inflation is out-of-touch.
And considering half or more or rich people, to say nothing of media members who also drive narratives, are Democrats, it's hard to see how a push could really be coordinated.
Clever interpretation, but I think the Occam’s Razor explanation feels more apt: the average American abhors higher prices and is taking the Biden admin to the woodshed for it.
This is a great piece.
One quibble: is it possible you originally wrote it back in March? The quoted line below was true then but it’s out of date now:
“the Fed raised rates by a quarter of a percentage point last week, with six more rate hikes expected in 2022.”
After raising policy rate by 0.25% in March, the Fed raised their policy rate an additional 0.5% last week, with five more meetings scheduled for the rest of 2022.
Yes I did write this circa March 16, it’s just been in the pipeline for a while
"tapping the breaks”
Ask your editor about this, Milan.
Can't catch them all
It makes me nostalgic for young Yglesias before he got into that whole editing/fixing typos thing.
I suspect that if they hit the soft landing, and don't trigger a recession that brings inflation back to near-zero, what they will do, in effect, is go back to Bernanke-ism for 5-7 years, very-slightly under-shooting 2% for a long enough time that on a ten-year window, just before the inflation spike of '21-'22 falls out, you'll have your 2% average.
This is a solid explainer -- well done. My one quibble is the over-emphasis on clarity as a strong goal.
In my field of software engineering, I've worked for managers and organizations that fantasized about systems that would impose analogous kinds of clarity on complex systems or processes. The results were typically bleak: a lot of meetings, debate, and sometimes engineering effort to achieve very little net benefit.
Clarity, like most virtues, is good ... up to a point. For example, if one really wanted clarity, the Fed could implement a computer program that would take a variety of economic indicators and spit out the next interest rate adjustment. Most of us have read enough dystopian fiction to have a vague sense that rigid rule-based systems always, eventually fail to anticipate every possible situation.
With complex systems, you ultimately need to balance the rigidity of total clarity against the flexibility and wisdom that a decision making body of subject matter experts can bring to bear. I think we're better off with roughly as much clarity as we currently have from the Fed: general guidelines, yes, but enough ambiguity to allow experts to make decisions within those parameters.
Mathematically speaking, overshooting one year only means the Fed should undershoot the next if the window for the average is one year, which would be silly. Too long a window would also be silly because then annual changes would have little effect on that moving average. The Fed should specify a time window they’re using for their average (if they haven’t already).
Excellent piece. If I were them, I'd say two things. The pandemic was an extraordinary situation, so we're starting the new FAIT clock today. And going forward, it's symmetrical. Well, actually, I'd just say one thing. That we are now switching to 4% NGDPLT. But easy for me to say though.
1. The Fed had never brought inflation like this without triggering a recession.
2. A 2% inflation target is stupid. At 2% inflation you lose half the value of your money in a generation (35 years)
Very informative - thank you Milan. :)
You're quite welcome