|The Problem with Janet Yellen's Recovery Outlook|
By Mike Mish Shedlock SEP 15, 2009 11:10 AM
For starters, she supports inflation targeting.
One thing I like about Janet Yellen is that unlike Bernanke and Greenspan, she speaks understandable English and isn’t prone to sugar-coating everything. I disagree with much of what she says, but not all of it.
Please consider these excerpts from Janet Yellen's Outlook for Recovery in the US Economy.
“Normally, if credit flows were restricted by these types of financial headwinds, the Fed would ease the stance of monetary policy by cutting its federal funds rate target. But the funds rate is already at zero for all practical purposes, leaving the Fed’s traditional policy tool as accommodative as it can be.
“Many versions of the Taylor rule, a well-known policy benchmark based on the state of the economy and inflation, indicate that we should lower the funds rate well below this zero bound -- if such a thing were possible.
“This brings me to the complex topic of inflation. In my career, I have never witnessed a situation like the one that exists now, when views about inflation risks have coalesced into two diametrically opposed camps. On the one hand, one group worries about the long-term inflationary implications of a seemingly endless procession of massive federal budget deficits. At the same time, others fear that economic slack and downward wage pressure are pushing inflation below rates that are considered consistent with price stability and even raising the specter of outright deflation.
“This dichotomy is on display among the participants in the Survey of Professional Forecasters. The lowest quartile of forecasters focuses on disinflation over the next five years. The top quartile is preoccupied with the possibility of rising inflation five to ten years out.
“My personal belief is that the more significant threat to price stability over the next several years stems from the disinflationary forces unleashed by the enormous slack in the economy.
“Today, we are starting with very low inflation. Core PCE price inflation has averaged just under 1.5% over the past 12 months, which is already below the 2% rate that I and most of my FOMC colleagues consider an appropriate long-term price stability objective. With slack likely to persist for years, it seems likely that core inflation will move even lower, departing yet farther from our price stability objective.
“From a monetary policy point of view, the landscape will continue to present challenges. We face an economy with substantial slack, prospects for only moderate growth, and low and declining inflation. With our policy rate already as low as it can go, it’s no wonder that the FOMC’s last statement indicated that “economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.
“I can assure you that we will be ready, willing, and able to tighten policy when it’s necessary to maintain price stability. But, until that time comes, we need to defend our price stability goal on the low side and promote full employment. Thank you very much.”
It's a long speech, well worth a read in its entirety. Unlike much of the praise Bernanke seems to heap upon himself (see Orwellian Madness "Bernanke Saved The World"), Yellen's speech feels genuine.
Moreover, Yellen doesn’t sugarcoat the grim jobs picture or the credit problems that are ahead. Indeed what she’s describing seems more like an L-shaped recession than a U-shaped one. In contrast, I often wonder if Bernanke really believes what he’s saying or if he’s simply trying to absolve himself of blame, just as I think Greenspan does.
On April 8, 2008, I made the Case for an "L" Shaped Recession and I don’t see any reason to change that stance.
Certainly the recession has already gone on longer than most thought. Although we’re coming out of recession now, it's important to note that Yellen is calling for "another so-called jobless recovery.”
Well, a jobless recovery when unemployment is at 5% is one thing; a jobless recovery is another thing indeed when the rate is 10%-11%.
For more on jobless recoveries, please see Dismal Unemployment Situation in Chart Form.
Here’s one of the charts from the article.
Click to enlarge
No Driver for Jobs
In the 1980s and 1990s, an Internet boom created massive numbers of jobs. Between 2000 and 2007, a housing boom created massive numbers of jobs. I keep asking what the next driver for jobs will be. Inventory replenishment won’t do it, nor will one-time stimulus efforts like road-building.
Nothing on the energy front seems capable at this time of producing such a boom. Commercial real estate is massively overbuilt as is the retail sector. So don't look for Home Depot (HD), Lowes (LOW), Target (TGT), or Walmart (WMT) to lead the way. Forget about banking, too, as Citigroup (C), Wells Fargo (WFC), and Bank of America (BAC) have their hands full and then some.
And although one can never tell in advance when technology breakthroughs will happen, as we’ve seen, internment booms aren’t that common. In 2001, everyone was waiting for the next "killer app.” Everyone is still waiting, so don't look at Intel (INTC), Microsoft (MSFT), or the technology sector, either.
So while everyone is tooting horns and cheering the end of the end of the recession before it’s even ended, those graphs and comments from Bernanke himself will put the pending job-loss recovery into better perspective.
Yellen Supports Inflation Targeting
My biggest grievance with Janet Yellen (aside from my distaste of the Fed’s existence at all) is her support of inflation targeting. Since when is a 2% annual rise in prices stable? Here’s a chart that shows what I mean.
Inflation Targeting at 2% a Year
Click to enlarge
Eventually, on a scheme like this, wages are bound to not keep up with prices. Moreover, the Fed ignores asset bubbles in its calculation of "inflation.”
Finally, it’s important to note that the Fed can’t control prices in the first place. The last four years should be proof enough.
I don’t believe Yellen when she says: "I can assure you that we will be ready, willing, and able to tighten policy when it’s necessary to maintain price stability. But, until that time comes, we need to defend our price stability goal on the low side and promote full employment."
I don’t feel she has a firm enough grasp on price stability, and even if she did, the Fed has proven it won’t act on asset bubbles. Yet Belief In Wizards Runs Deep.
Inflation Targeting and Price Stability Questions
For more on Fed-promoted price stability, please see the Fallacy of Inflation Targeting.
That the Fed ignored asset prices in its measure of "inflation" is one of the reasons we’re in this mess.
Correct Inflation Target Is Zero
Here's the deal: The correct inflation target is zero. And we’ll never get there with a Fed that thinks micromanaging interest rates is the way to achieve stability.
Inquiring minds are reading Does Inflation Targeting Make Any Sense?
“Volcker: ‘I don't get it…’ By setting 2% as an inflation objective, the Fed is ‘telling people in a generation they're going to be losing half their purchasing power.’”
“Inflation Targeting Is A Moral Hazard
“Given that inflation benefits those with first access to money, any targeted inflation at all is morally wrong. Finally, for all this silly talk about inflation fighting and inflation targeting, it's important to remember what inflation really is. Inflation is an expansion of money supply and credit, where credit is marked to market. Prices generally follow money supply but there is a variable time lag, productivity and consumer sentiment are huge factors, as are a host a host of global factors including interest rate differentials and currency fluctuations.
“So even if the Fed could achieve that magic 2%, the whole shebang would eventually blow sky high anyway (as it just did) because wages will not keep up with prices causing asset bubbles to pop.”
I think Yellen is a likable person who, as I said, doesn’t sugarcoat everything and seems to speak from the heart. But when it comes to "inflation targeting" I agree with her no more than I do Bernanke.