By Dan Kervick
Matt Yglesias makes two very important points this morning in a post about the ongoing debate over Ben Bernanke’s successor as Fed Chair. The first is that “a great big country like the United States should probably put its central bank in the hands of people with central banking experience.” He elaborates:
One issue here is just that it turns out to be hard to guess what someone’s going to do based on outside writing. Bernanke is a great case in point where his conduct as Fed chair has been much more similar to his remarks in Fed meetings as a Fed governor than to his published writing as a Princeton professor. For better or for worse practical experience with the institution tempered his ideas.
The importance of hands-on experience with central banking operations is one of the points I made last week in making the case for Janet Yellen over Larry Summers, and I am glad Yglesias sees things the same way. But Yglesias ends his post with a remark that I believe is new in spirit for him, and is even more important:
But more broadly, I think the world needs to move past the idea of the central banker as some kind of svengali—or as they said in the Greenspan era, a “maestro”—and think of it as something a bit more banal. A very important job, yes. But not one that requires mystical powers or penetrating original insights into the operation of the economy. It’s an important job so you should hire people who’ve done related work and done it well.
The need to resist the tendency to elevate the Fed chief to “maestro” status is something I have pushed incessantly (some would say annoyingly). I argued last year against what i called “central bankism”, the tendency to attribute to central bankers the ability to achieve important monetary policy results through the sheer power of words. I later lampooned this tendency as shamanistic economics.
Some of the harmful social and political effects of central bankism showed up yesterday in a Washington Post piece by PIMCO’s Mohamed el-Erian. El-Erian believes “this particular Fed debate now risks hurting the nation’s economic posture.” But why is that? El-Erian argues that:
… central banks around the world pursue their critical policy objectives using a range of instruments — most notably, interest-rate setting, balance-sheet operations, regulation, communication and policy guidance. To succeed in a durable fashion, they need to be able to persuade the private sector (and financial markets in particular) to behave in supportive ways and to refrain from taking certain actions. Indeed, the most successful central banks are those that entice the private sector to do most of the heavy lifting for them.
It therefore is not surprising that research has shown that the effectiveness of central banks is linked in an important fashion to credibility, including the capacity of leaders to combine constructive internal collaboration with a solid external standing. A successful central banker must do more than just convey the current policy stance. She or he must also command the necessary respect among politicians, financial markets and foreign central bankers that anchors the baseline policy path, underpins a well-disseminated methodology and facilitates the inevitable midcourse corrections.
That is why we should all worry about today’s Fed debate. It is pivoting away from constructive issues — including the candidates’ respective academic backgrounds, economic thinking and policymaking experience — to a form of negative campaigning replete with sophisticated mudslinging.
Pursuing this point, El-Arian then goes on to worry about the “collateral damage” caused by the current debate:
Discussions of whether Yellen has the needed “gravitas” and whether Summers can be too “prickly” are examples that have long left the land of relevance and are venturing ever more deeply into silly territory, territory that is not only unconstructive but that also creates more polarization on longstanding issues such as gender.
If this continues, there is a material risk that exaggerations and tangents could undermine the country by raising unwarranted questions about leadership, particularly when the next Fed chair may need to calm panicky financial markets, take controversial steps, persuade foreign central banks to cooperate or suddenly lead the private sector in a new direction.
The longer the current debate continues, the greater the risk of collateral damage and unintended consequences. This is particularly distressing as, primarily because of political polarization on Capitol Hill, there are no other entities that are both able and willing to take on the enormous policymaking burdens that the Fed has been carrying virtually on its own.
But why should Fed chiefs be any different than presidents or senators? We routinely beat up on competing candidates for the latter offices for many months prior to the victor’s taking office. Doesn’t a president need to project credibility and secure trust? The suggestion here seems to be that the Fed Chair has a need to preserve a special aura of credibility that goes beyond the credibility required by a mere politician – even a powerful one. The term “credibility” is actually a bit of a euphemism in this context. As routinely used by Fed-watchers and Fed enthusiasts, the term seems to mean more than just trustworthiness or believability. “Fed credibility” invokes a special, nearly-oracular power of predicting the future. For example, if a Fed Chair who is widely credited with the ability to accurately predict the rate of inflation makes a prediction that the CPI will rise to 3% by the end of the year, then many businesspersons who believe in that predictive power will raise their prices more than previously planned in anticipation of the need to match revenues with expenditures, and in the expectation that others will do the same. The businesses thus do the actual “heavy lifting” to which El-Erian alludes.
Put this way, Fed credibility sounds like it is based on something approaching superstition. But a more sophisticated picture is that the public – or at least those most powerful members of the public whose decisions are most important in the economic sphere – have tacitly agreed among themselves to freely bestow upon the Fed Chief the power and authority to direct their actions. Thus what the Fed might present as a prediction or expression of expectation is more accurately seen as a tactful direction or command. The chair says, “I expect inflation to be 3%”, but what he means is something like “Let us make inflation 3%” or “You are all hereby directed to bring inflation to 3%.” These key market participants and corporate directors don’t act in the directed way because they believe the Fed has any substantially greater power to know the future than they do themselves; they act in the directed way because they have all mutually accepted the convention of treating the Fed Chair as boss.
This perhaps isn’t so awful in the case of inflation and inflation expectations. But in much of the recent discussion of Fed policies and central bank direction, there is a strong suggestion that these tacit grants of authority have been extended to the areas of employment and growth. The Fed Chair is now called upon to say things like “Let us have 4% unemployment”, or “Let us have a 6% increase in nominal gross domestic output.” Some pundits and bloggers have expressed intense frustration that the Fed has not issued such directives.
The model of social attitudes that is being put to work in these suggestions strikes me as as unrealistic. For such a system of expectations control and behavior management to work, the position of Fed Chair must be invested with some kind of combination of either superstitious confidence in the Fed’s predictive powers or slavish obsequy to the Fed’s directions. In other words, the Fed Chair must be possessed of an impressive level of authority to which the bulk of the American economy defers. This is the kind of authority that can be destroyed by ordinary political rancor. The fear of such a loss of authority seems to lie behind El-Erian’s warnings.
I don’t believe the Fed actually has these powers, and that such a tacit consensus really exists. But if it did exist, it would be an appallingly dangerous and grotesquely undemocratic approach to macroeconomic policy governance. American commerce, employment and production should not be in the hands of some banker-maestro conducting the behavior of the entire business world. The enthusiasm for central bankism at its worst bespeaks a desire to have a kind of king whose authority and dignity stand above reproach, who abides in a divine or anointed realm above politics and democratic wrangling. Even at its best, central bankism is still the dangerous idea that we should grant to a single unelected and weakly accountable figure the ability to conduct us in our most important decisions. But nobody has ever granted the Fed those powers, and it is hard to find any warrant within the American political tradition and our national habits of political thought and behavior in favor of the idea that there should be such a figure. Central bankism is the decadent outgrowth of an elitist, technocratic and anti-democratic spirit run amok.
And in the end, central bankism represents a profoundly conservative approach to macroeconomic policy aimed at cementing the security of the status quo, and preventing any turn toward activist government driven by an engaged citizenry pursuing progressive goals through democratic and legislative means. Robert Skidelsky makes essentially this point in a recent piece in The Economist. After raising the question of what has been driving the recent fascination with quantitative easing and other forms of unconventional monetary policy, Skidelsky cites a remark by Robert Lucas:
Here is another answer, given by the Chicago University economist Robert Lucas in theWall Street Journal. Quantitative Easing, he wrote, “entails no new government enterprises, no government equity positions in private enterprises, no price fixing or other controls in the operation of individual businesses, and no government role in the allocation of capital…These seem to me important virtues”.
What Skidelsky is pointing to here has been the overarching theme of my many critiques of the neo-monetarist’s promotion of reliance on central banks and unconventional monetary policies as the chief focus of macroeconomic policy. Central bankism is a political tool for keeping the elected, political branches of the government out of the economy, and for making sure our economic future has as little as possible to do with deliberate democratic choice, and everything to do with the whims of private capital .
The Fed is not the People’s Directorate of Macroeconomic Policy. We need our fellow-citizens and our elected political leaders to assume full responsibility for our economic destiny as a nation, with the Fed relegated to back-office support, so to speak. I propose that a good Fed chief should just set an interest rate target and stay on it, hire an army of honest and capable regulators, watch the banksters like a hawk, leave the job of setting and achieving macroeconomic policy goals to the elected political branches of government, and cooperatively accommodate those goals once they are set. Setting those goals should not be the business of an unelected central banker, whether viewed as maestro, svengali, wizard or pontiff. The monetarist dismantling of activist government and subversion of democracy in the era of what I’ve called “central bankism” needs to end.
Cross posted from Rugged Egalitarianism