Keeping the public’s long-term expectations about inflation in check is typically the ballast of monetary policymaking.
It speaks of the trust people are willing to place in a central bank to keep inflation from getting out of hand and ruining their savings. It gives a central bank freedom to maneuver.
Yet there are times when the very expectation of low inflation puts the U.S. at risk for the opposite and more perilous outcome – Japanese-style deflation when near-zero interest rates held ad infinitum do nothing to cure the economy’s ills or keep prices from dangerous declines.
James Bullard, the president of the Federal Reserve Bank of St. Louis and a voting meber of the Federal Reserve’s rate-setting Open Market Committee, thinks that if we are not at that point, we are conceivably a negative shock or two away.
“The U.S. is closer to a Japanese-style outcome today than at any time in recent history,” Bullard wrote in an economic paper that finds fault with the Fed’s current policy of promising to maintain near-zero rates for an “extended period” to nurse along the nascent economic recovery.
What we might need right now, Bullard implies, is an old-fashioned dose of higher inflation expectations. And the Fed can spur what in other times might be considered an irresponsible goal by buying Treasury securities, at least raising fears of monetizing the federal debt.
A few words about Bullard. Back in December, we called him a breath of fresh air for his public talk about monetary policy in a substantive and straightforward manner. Those are qualities seen too rarely among central bankers, whose thoughts and actions are now especially crucial.
The St. Lousi Fed chief shows his worth again by publishing this technical paper and then discussing it with reporters. Will wonders never cease! During that call, Bullard referred to his paper as “geeky,” Dow Jones Newswires reported, a charcterization with which this layman would heartily agree.
Still, the issues dealt with are anything but esoteric. Federal Reserve Bank of Kansas City President Thomas Hoenig has been dissenting fromFed decisions because he thinks its time to jettison the “extended period” language and end emergency low interest rates. His view is that with at least some growth the emergency is over and rates too low for too long cause their own imbalances.
Bullard seems to object to the phrase for the opposite reason. The phrase’s existence - and talk that the Fed would consider even adding to the definition of extended if the economy worsens – implies an economy in need of emergency help and therefore incapable of generating higher inflation.
If there is a negative shock, Bullard wrote, “A better policy response…is to expand the quantitative easing program through the purchase of Treasury securities.”
Bullard told journalists this paper didn’t mean he would dissent at the Fed’s next meeting in August if they left the “extended period” language as is. He wants to spur debate.
In that sense, he reminds one of Ben Bernanke when the current Fed chairman was a central bank governor. Then, Bernanke was able to stray from some majority Fed views (inflation targets) and still stay in the mainstream.
Bullard may be pulling off a similar feat.