Central banks are increasingly entering the world of politics

by Shaun Richards

Yesterday brought a barrage of central banking news. So let us start with something rather remarkable from the head of the world’s number one which is the US Federal Reserve. The crucial part of the speech given by Jerome Powell to the National Association for Business Economists is below.

The expansion is still far from complete. At this early stage, I would argue that the risks of policy intervention are still asymmetric. Too little support would lead to a weak recovery, creating unnecessary hardship for households and businesses. Over time, household insolvencies and business bankruptcies would rise, harming the productive capacity of the economy, and holding back wage growth. By contrast, the risks of overdoing it seem, for now, to be smaller. Even if policy actions ultimately prove to be greater than needed, they will not go to waste. The recovery will be stronger and move faster if monetary policy and fiscal policy continue to work side by side to provide support to the economy until it is clearly out of the woods.

Some of the economics is really rather dubious. But the main driver is that he is interfering in a political decision which is fiscal policy in the middle of an election campaign. It used to be considered the the Federal Reserve would go into a type of purdah during an election campaign but apparently not now. In the past that would usually mean a period where interest-rates would not be changed.The situation is somewhat different now as interest-rates have already been reduced so close to 0% so the weapon of choice would be more QE bond buying but the principle is the same.

The Economics

The claim that the risk of overdoing policy actions is small is familiar territory for central bankers. But this is really rather extraordinary.

Even if policy actions ultimately prove to be greater than needed, they will not go to waste.

Such a situation would be likely to be one exhibiting inflation. The inflation would be most likely to be in house and other asset prices but none the less would be there, albeit it would be ignored by the main consumer inflation measures.

Also if we look at the opening speech we see some familiar cheerleading for policy.

As the coronavirus spread across the globe, the U.S. economy was in its 128th month of expansion—the longest in our recorded history—and was generally in a strong position.

So strong in fact that “Moderate growth” is considered to be “slightly above-trend”

We travel a similar journey if we look at his view of the recovery which is quite a success.

After rising to 14.7 percent in April, the unemployment rate is back to 7.9 percent, clearly a significant and rapid rebound.

But then there is quite a bit of slip-sliding away.

A broader measure that better captures current labor market conditions—by adjusting for mistaken characterizations of job status, and for the decline in labor force participation since February—is running around 11 percent.

I have pointed out more than a few times how and why the international definition of unemployment has failed us in this pandemic. So it is more than disappointing to see a central banker who should know better using it. In a familiar theme that is the behaviour of a politician.

Meanwhile if we switch to actual politicians the fiscal stimulus call had a bit of trouble with The Donald.

Nancy Pelosi is asking for $2.4 Trillion Dollars to bailout poorly run, high crime, Democrat States, money that is in no way related to COVID-19. We made a very generous offer of $1.6 Trillion Dollars and, as usual, she is not negotiating in good faith. I am rejecting their request, and looking to the future of our Country.

Top of the Class

The ECB decided to issue a career enhancing discussion paper yesterday.

Despite this renewed debate, traditional indices of central bank independence do not suggest a deterioration in central banks’ de jure independence after the GFC. ( GFC = Global Financial Crisis)

Lewis Carroll would be proud. Although there is a brief flash of insight.

The benefits of central bank independence are currently not obvious for many citizens,

Really?! However we return to a place “far,far,away” in the section on the ECB itself.

There have been no visible changes in either the de jure or actual independence of the ECB. The legal frameworks protecting the ECB’s independence have been tested,
and have served to establish its independence more firmly.

Meanwhile back on the ranch the ECB has a President who is a politician and former French Finance Minister and a Vice-President who is the former Economy Minister of Spain. So independence from political control has been established by er, putting politicians in charge! It does at least explain this bit.

Comments by euro area governments on the ECB’s policy decisions are unusual.

Why would then when it is doing their bidding? After all if monetary policy was more overtly under the control of politicians how much more could they have done?

If we switch to the Bank of Russia we get a laugh out loud section. We are assured this.

Central bank independence seems to be observed in Russia, although it was not tested in a controversy with the government in the analysed period.

The idea of independence under Vladimir Putin seems not far off insane which somewhat bizarrely they then confess.

In January 2015, the head of monetary policy was reportedly replaced by a person more acceptable to
bankers, who had called for lower interest rates.

Seems to be a similar model to Roman Abramovich at Chelsea football club albeit no manager there survives for that long.

Interest-Rate Cuts

Just when you though that this game might be over there is an early premonition of Halloween. From the Wall Street Journal.

European Central Bank President Christine Lagarde said the bank is ready to inject fresh monetary stimulus to support the eurozone’s stuttering economic recovery from the Covid-19 pandemic, including by cutting a key interest rate further below zero.

Just as a reminder the Deposit Rate and the Current Account Rate are already -0.5%. Last time this came up for discussion ( about a year ago) it was about a move to -0.6%. Does anybody believe a 0.1% move would make any difference right now?

Insane in the membrane
Insane in the brain!
Insane in the membrane
Insane in the brain! ( Cypress Hill )

There are three issues with this. The first is simply that the evidence is that this does not work as otherwise why so we need ever more doses of it? This leads her to an official denial and we know what to do with them.

ECB hasn’t yet reached the point where a fresh interest-rate cut would do more harm than good, known to economists as the reversal rate. ( WSJ)

Next comes the international impact as another interest-rate cut would affect countries which explicitly ( Denmark) and implicitly (Switzerland) set their interest-rates against the Euro exchange-rate. Thirdly we are pretty much back to trying to devalue the Euro which relates to the point before.

Comment

The problem here is that central banks have found themselves behaving like politicians.The move towards independence did not last long as the various establishments shifted towards appointing people who were and are “one of us”. That is most explicit at the ECB where an actual politician in Christine Lagarde is President. In the United States we have seen a different tack where Jerome Powell was seemingly pressurised by President Trump to do his bidding and cut interest-rates. Neither looks especially independent. As to fiscal policy in the US President Trump may already be switching his tune.

If I am sent a Stand Alone Bill for Stimulus Checks ($1,200), they will go out to our great people IMMEDIATELY. I am ready to sign right now. Are you listening Nancy?

That is the problem with playing politics as it can change daily and indeed hourly but the economy cannot.

Rather ironically a day which started with Jerome Powell calling for more like Oliver Twist and the President saying what? just like The Master in the story had another turn. Until then US bond yields were rising ( 30 year at 1.6%) meaning that we might actually see some of the promised Yield Curve Control. But the Trump Tweet ended that at least for now.