The annual Jackson Hole conference of the Federal Reserve starts today! If you’re a little under-enthusiastic, it’s OK. There’s a lot going on, what with the State Fair, back to school preparations, and the fact that hardly anyone cares what the Fed is up to.
Except, that is, more people all the time. The mysterious workings of the Fed have come under a lot of scrutiny lately – from left, right, and center. The most powerful bank in the world does indeed control more of our destiny than many otherwise free people would like, and that’s worrying.
The Fed knows this, of course. They also know that in an era of dysfunctional government and globalism they have more power all the time – as well as more responsibility to get it right. Will there be a new, more open Fed? The answer, a very strong “Yes!” may surprise you.
The conference will be closely watched this year for the statements on the opening day by Fed Chair Janet Yellen. There is a growing hawkishness for higher interest rates which may bear fruit as early as September. It’s unclear at this time whether a higher Fed Funds Rate will actually trigger lower consumer rates through a bond rally, as it did last December, but that possibility is there.
More likely, a rise in the Fed Funds Rate will be very neutral overall as the flood of money into the US continues.
It’s not at all clear what the right interest rate policy should be, however. Traditionally, the Fed has a “dual mandate” to balance off inflation and unemployment by finding the right interest rate overall. That’s how economist Greg Mankiw was able to come up with a simple formula for predicting the Fed Funds rate:
Federal funds rate = 8.5 + 1.4 * (Core inflation – Unemployment)
You can see it in action since 1960 as the blue line charted against the actual Fed Funds Rate in red:
That worked very well until … it didn’t work at all. Sometime in 2008 it broke. The first problem was that in 2008 the Mankiw estimate went negative, which is not supposed to happen. The solution was “quantitative easing”. But today it’s still not working, giving us an estimated 2.8% Fed Funds Rate versus a policy of 0.25%? What gives?
That old “dual mandate” is what gave. For one thing, long term unemployment is still with us for far too many people, meaning the old U3 “headline” unemployment just isn’t enough. But there’s more to it than even that.
There is now a “triple mandate” that includes balancing the value of the US Dollar overseas. If the Dollar becomes too valuable goods and service from the US become too expensive, killing jobs. With an ongoing currency war of a kind and uncertainty crashing out of every piece of news from Brexit to Middle East turmoil, the Dollar is king. Raising rates now only makes it more desirable, increasing the dollar and making our exports expensive.
So blame the triple mandate – unless you think that the Fed should also be doing something about financial inequality. Quadruple mandate, anyone?
Sure, says a group called “Fed Up”. They are meeting with the entire Fed Board of governors at this conference to promote their agenda of low rates and community engagement to help lift up communities which have been left behind in this weak recovery. Minneapolis Fed President Neel Kashkari has already met with the local arm of this group and had a good experience all around. He also joined their call for more gender and racial diversity at the Fed as well as more community voices generally.
This is a genuinely grass-roots organization that is working very hard to engage the Fed and it is working. Rather than “End the Fed”, as far too many people claim should happen, this group is looking to make major reforms in how the Fed works, what it targets, and even who it is. In the name of transparency and accountability they are being listened to. It’s a good day for our nation all around.
But what can we make of the growing demands of the Fed and how it has to balance so many different agenda items all at once? There is no doubt that the last sixteen years of “Managed Depression” have tested the limits of monetary policy all around the world – and definitely found it wanting.
In a far reaching piece in the Wall Street Journal, former Fed Governor Kevin Warsh was highly critical of the Fed’s inability to fundamentally change in an more highly politicized and wary climate. Yet even he focused primarily on monetary policy in his criticisms as if there was nothing else to do. This may show the frustration felt by other insiders that the Fed is very much in a no-win situation. The only ones who can do something are stymied by a lack of tools to do it.
What will come out of this year’s Jackson Hole conference? Actually, quite a lot if you pay close attention. The consensus on interest rates may clear up a bit, but more importantly the consensus on increased transparency and stronger action on inequality, particularly in left behind communities, may yet gel.
We do expect too much of the Fed primarily because we expect too much from monetary policy. Let’s see how they rise to this challenge.