Yellen and Fischer Still Singing from the Same Song Book

Many observers are puzzled.  The last FOMC meeting showed three
regional presidents felt sufficiently convinced of the need to hike rates
immediately that they chose to dissent.  

On the other hand, the dot plots showed three officials did not think a
hike this year is warranted.
There is some speculation that one or two of
these dots belonged Federal Reserve Governors (Brainard and/or Tarullo).  The perception is that a Governor dissent is
less common and is more significant than dissent from a regional Fed
President.  

The Fed’s leadership faced a dilemma in September,
and this dilemma has been expressed a
“close call.”
  Essentially, the choice was between which set
of dissents are more acceptable. In this narrative, Yellen chose to face the
regional President’s dissents, and we suspect allowed for a higher number of
dissents to also underscore the knife-edge
decision
.  

Nevertheless, the arguments of those who do not think a hike is
appropriate this year, especially if they have
been articulated by Governors
, need to be addressed. 
It is in
this context that Yellen and Fischer’s recent comments need to be
understood.  In their own ways, they both argued against the arguments
that suggested to wait for inflation to be at
the
target before raising rates or
raising the inflation target.  

Yellen, showing respect for the other argument, said last week that it is
plausible (meaning arguably by reasonable people) that holding the rates lower
for longer will help further the recovery.
   The loss of
aggregate demand reduced economic capacity.  Letting the economy run
hotter may help ease the supply-side restraints.   This is apparently
where many lost interest.  Yellen went on to talk about the risks of what
she called a “high-pressure economy.”   

Fischer, in his own style, picked
up on this sentiment yesterday.
  His comments were more pointed than
Yellen’s which is why some observers see it as divergent.  As the elder
statesman,  he cautioned against such ideas as waiting until inflation
rises to or through its target before removing some accommodation.  He
says it would be too late.   Monetary policy impacts with a
lag.  

Fischer also argued against changing targets (inflation and/or unemployment).  He said that to
do so undermines the entire framework.    These, like Yellen’s, are not academic musings and ad hoc
comments.  They are arguments against some of their colleagues.  It is done most respectfully, but it is an
argument nonetheless.    

We have been told that Yellen may
have personally requested that Fischer, who served on the dissertation
committees of both Bernanke and Draghi be her Vice-Chairman.
  She has
a different relationship with him than say Tarullo, who she was reportedly
previously not on speaking terms with for
some time.   There seems to be a deeply felt mutual respect between
Yellen and Fischer, and it requires an
unreasonable stretch of the imagination to think that he would take a
difference of opinion with the Chair public.  Fischer knows how he would want his assistant governor to act when he
headed up the Israeli central bank.

Lastly, we note that recent data has prompted many economists to lower
their forecast for Q3 US GDP. 
The Atlanta Fed’s GDP tracker had begun
the quarter anticipating more than 3% growth.  As of last week, it has been gradually cut to 1.9%.   
With such slow growth, many questions why
the Fed is still talking about hiking rates.  

Our short response is two-fold.  First, from a monetary policy
point of view, the key issue is not absolute growth but the pace of growth about trend growth.  For various reasons, trend growth has continued to
slow.  The Federal Reserve now estimates trend growth at 1.8%, and it may not be finished reducing it. 
It may, in fact, be closer to
1.5%.   The US economy is growing near trend growth.  Growth in
absolute terms may seem low, but that is
compared
with earlier times which featured asset bubbles and superior
demographics.  

Second, as the former editor of the Economist noted recently, drawing on
the work of the economic historian Angus Maddison, per capita incomes in what
is now recognized as advanced industrial economies have risen on average
1.5%-2.0% a year for the last two hundred years. 
This suggests that maybe this is not simply the
hangover after a debt crisis that Rogoff and Reinhart claim.  Nor is it
the secular stagnation that Summers champions.  What we are experiencing
is more typical, with the post-WWII recovery, baby-boom, and incorporation of
large swathes of the world into the world economy generated abnormally strong
growth for an abnormally long period.  

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