Is Einstein Wrong?
Has Fed policy reached the point of complete marginal futility?
Is the Fed 2I2bI?
While the WSJ article on the Fed paints a picture of controversy enshrining the usual hawk Vs dove sort of frame work ( or is that Hatfields Vs McCoys? Montague Vs Capulet)… what strikes me is the sense of agreement I get in reading this thing. Everyone at the Fed is on the very same page.
John Hilsenrath is correct in concluding that there is a policy dilemma, but he does not connect the dots and say that it is a dilemma without much consequence. .Yet it is quite clear that even those who would like the Fed to do more, are very disappointed with the results from what they already have done. If you ordered dessert and it was bad would you order more? The Fed would.
Here we introduce the law of increasing marginal-futility.
Policymakers enact the policies they think will be most effective first. And the Fed has done this. Now as it has slashed rates to zero and done several rounds of “QE’ (quantitative excess) and some Twist, the question is if they should follow Chubby Checker and Twist again or try more QE of some sort.
But if did not work before why should it work now?
What is the Fed’s new angle?
Einstein described insanity as doing the same thing over and over and expecting to get a different result. Is the Fed, by that definition insane?
The policy is not insane it is just the policy. But the choice to employ it again would weigh heavily on the insanity scale. The Fed does have other things it can do that it thought they were more potent, it would already have done them. So as the Fed digs deeper into its bag of tricks, each new policy tilt is less effective than the previous one. Hence as the Fed keeps doing things it implements policies that are increasingly marginal its futility rises, hence increasing marginal futility.
I believe that the real debate at the Fed is between those who want to stop messing with markets and muddling their signals and making the undoing of QE an even bigger mess and those who simply think the Fed can’t afford to look impotent even if it is. The Fed is too important for that.
2I2BI: In some sense the Fed is too important to be impotent or (2I2BI). Some think that admission of impotency could make things even worse in markets, but I don’t expect that line of reasoning to appear in the redacted Fed ‘ minutes’ we get each month - ever.
I like Bullard’s quote from yesterday that QE won’t fix Europe. I think the Fed really has to look at what it can do and project what the results of it policy might be and ask if that would really be helpful. I’m dead serious. So what if QE or Twist could and DID lower rates a few basis points? SO WHAT!!! Would that be a victory for policy, or an admission of defeat and of impotency?
We hardly need lower rates. What we need is a stronger belief in a stronger tomorrow and that will pull credit demand forward. But, alas, we live in the age of pessimism and we go to the church of what’s never going to be happening now (credit to Flip Wilson, sort of)…
Even the Fed has been stumbling down that road urging on pessimistic thoughts. It has been issuing a set of forecasts that is so bleak how could it ever be helpful? Maybe I have been less affected by it because I have been a Detroit Lions football fan for so long. I am the eternal optimist that things can always get better. Heck the Lions finally have improved so why not the economy? Maybe the Fed needs to fire Matt Millen? It worked for the Lions…
But, seriously, some people are not wired to be optimists. When the Fed issues a forecast like that, they believe it – despite Fed’s marginal forecasting record. Heck, it did not see the recession coming why should it ‘see’ the recovery? Still, depressed by the Fed’s outlook, many start to roll up sidewalks in front of their shops and layoff non-essential workers. These are the same people who built fall-out shelters in the 1960s without even asking the question, “If I need one of these to survive do I want to?”
Maybe the Fed has been all too transparent. Maybe what we need is for the Fed to LIE TO ME… whisper sweet nothings in my ear about stronger growth. Maybe wishing makes it so. Maybe Bernanke should put on some ruby slippers and click his heels together saying, “there’s some place with growth”….
It is unavoidable to conclude that the Fed’s marginal futility should cause Bernanke to seek a meeting with Congress and the President instead of the other way around!
Imagine that! Imagine the Fed chief calling in the President and the Top Political Honchos to say, hey, we at the Fed are tapped out here. We’ve done all we can. Give me a single mandate or a dual mandate it does not matter. I can’t do anything now we are the point of entropy, of complete marginal futility where the slope goes to infinity. Hey guys/gals it’s now up to YOU! Imagine that!
Of course that will never happen. But it’s where we are nonetheless.
So what do you do when you get there, at the point of maximum futility? You do NOT - DO NOT - do something ‘marginal.’
So I’d say QE or Twist are about the worst things the Fed could do since they would only cement the view that nothing is going to change… unless you think Einstein is wrong.