IF you’re looking for a case-study in economic groupthink, try Googling the phrase “Fed behind the curve.”
Informed opinion, it seems, has congealed behind a conventional wisdom that the United States Federal Reserve (Fed) has been too slow to restrain accelerating inflation.
Such widespread confidence would seem to require unambiguous evidence. But where is it?
At least one eminent economist thinks the statistical case against the Fed is shaky. That would be Brad DeLong, the historian, professor of economics at the University of California at Berkeley and former deputy assistant Treasury secretary under president Bill Clinton.
In a critique last week of the conventional inflation wisdom after the Fed raised a key interest rate by a quarter of a percentage point, DeLong asked rhetorically:
“So why is the conclusion not: ‘Policy is appropriate. The Fed is not behind the curve’?” He added, “This is, to me, a very genuine mystery.”
DeLong has also challenged the certainty that historical experience supports the prevailing conclusion. So has Paul Krugman, the economics Nobelist and New York Times columnist.
Their argument deserves closer attention. On March 16, the Fed lifted its target for the federal funds rate, or cost of overnight lending of reserves between commercial banks, for the first time in two years.
The increase of 0.25 percentage point brought the rate to 0.5% as inflation, measured by the US Personal Consumption Expenditure Core Price Index, continued climbing after hitting a 21st-century high of 5.2%, according to data compiled by Bloomberg.
Fed chair Jerome Powell, who subsequently presaged another half-point increase, routinely explains central bank thinking as “data dependent”.
By this he means that “policy is never on a preset course and will change as appropriate in response to incoming information.”
That’s what he told the National Association for Business Economics in October 2019.
Much of that information is in the US$30 trillion (RM127 trillion) US bond market, where the 30-year breakeven rate – the bet on what average annual inflation will be during the next 30 years – is 2.6%, or 0.5 percentage point less than the 21st-century high, according to data compiled by Bloomberg.
Similarly, the five-year forward breakeven rate fell to 2.3% from 2.6% a year ago and is a full percentage point lower than the 2008 high.
In other words, the people who buy and sell Treasury securities around the world don’t anticipate accelerating inflation in the long run.
They’re betting fortunes and reputations on the conviction that inflation will surge during the next two years and then abate precipitously at some point over the next eight years, reflected in the spread between the two-year and 10-year breakeven rates.
DeLong thinks the bond-market participants are the better inflation barometer.
The Bloomberg US Financial Conditions Index declined a modest two index points from its perch a year ago. — Bloomberg
Matthew Winkler is a Bloomberg Opinion columnist. The views expressed here are the writer’s own.
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