The U.S. Federal Reserve is ever so slowly leaving the Alan Greenspan era behind.
Mr. Greenspan, the former chairman, notoriously preferred obscurity over clarity -- he wasn’t known as the oracle for nothing.
This isn’t Ben Bernanke’s style. The current Fed chairman and former Princeton University professor is a long-time advocate of transparency. He favours inflation targeting, a position that Mr. Bernanke has been forced to muffle since taking over an institution that is so guarded in its communication that it only just this year instituted press conferences.
But it appears Mr. Bernanke might be making some headway, and maybe even had a breakthrough at last month’s meeting of the Fed’s policy committee.
“Most participants indicated that they favoured taking steps to increase further the transparency of monetary policy, including providing more information about the committee’s longer-run policy objectives and about the factors that influence the committee’s policy decisions,” the minutes of the Federal Open Markets Committee’s Sept. 20-21 meeting said.
Troy Davig, an economist at Barclays Capital in New York, takes this to mean that a formal U.S. inflation target is on the table.
The Fed is alone among major central banks in having legislative mandates to achieve price stability and “maximum employment.” (Most, including the Bank of Canada, are tasked only with controlling inflation.) Mr. Bernanke has indicated in the past that the Fed considers an unemployment rate in the neighborhood of 5.5 per cent to be consistent with its employment mandate. The Fed also is understood to aim for an annual inflation rate of about 2 per cent, like most central banks that target prices.
Yet these are only guidelines. They aren’t written anywhere, which makes reading the U.S. central bank a guessing game.
The Fed’s institutional resistance to transparency was evident in its conditional commitment to keep borrowing costs extremely low until the middle of 2013.
Providing an explicit time period for how long investors can reasonably expect low interest rates is the height of central bank transparency. It is stimulative because it gives investors and executives the confidence to spend money without the threat of a sudden jump in borrowing costs. The Bank of Canada used this policy to great effect during the financial crisis, promising to keep rates as low as possible for a set number of months so long as inflation remained in check. But the Fed only took a half step toward perfect clarity. That’s because policy makers opted against telling investors how to judge what might cause them to raise interest rates early. The Bank of Canada could rely on its inflation target. The Fed has no such target and has yet to offer one.
That may soon change.
The FOMC minutes state that “most” participants in the September meeting saw advantages in “being more transparent about the conditionality in the committee’s forward guidance by providing more information about the economic conditions to which the guidance refers.”
However, doubters remain. “Several” policy makers worried that any explicit statement on the 2013 commitment could be misread as the Fed’s longer term policy goals. The minutes imply that these people were overruled. A “number” of the FOMC members said they believed the information could be conveyed in a such a way that would avoid any misunderstanding, the minutes said.
This suggests that the Fed’s next policy measure will be simply to pull back the curtain.
Bank of Canada Governor Mark Carney said this summer that the Fed’s conditional pledge to keep interest rates exceptionally low through 2013 could amount to the equivalent of hundreds of billions of dollars in quantitative easing. That should appeal to an institution that has struggled to convince some politicians and investors of the efficacy of creating money to purchase financial assets. Talk, after all, is cheap.
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