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Wednesday, July 06, 2005

William Poole and Milton Friedman on Inflation Targeting and the Post-Greenspan Fed

Interesting comments by St. Louis Federal Reserve Bank President William Poole on his support of inflation targeting, the transition to a new Fed chair and how that might affect the Fed’s credibility, his discomfort with language such as “measured,” and other matters.  Comments by Milton Friedman in support of inflation targeting are also noteworthy given his long-standing advocacy of quantity targets:

Post-Greenspan Fed will face credibility test-Poole, By Alister Bull, Reuters:  Federal Reserve Chairman Alan Greenspan's eventual successor faces a stiff credibility test from markets but could ease the transition by adopting a target for inflation, top U.S. economists said on Wednesday. St. Louis Federal Reserve Bank President William Poole said markets currently expect a period of low U.S. inflation to continue well after Greenspan departs office early next year, but warned that confidence would likely weaken somewhat. … "The Fed's inflation-fighting credibility may be somewhat more fragile over the next few years than it has been over the past few years." … Nobel-prize winning economist Milton Friedman, who joined Poole and other monetary experts to discuss how the Fed would fare after Greenspan, said the case for adopting inflation targets was clear.  "Greenspan didn't need these rules...(but) what we need for the future is for the government to set inflation targets and to hold the officials responsible for them," he said. ... Friedman warned that without a target, the attraction of inflation may be hard to resist. … Greenspan has resisted adopting a formal target for inflation, which is the practice in Britain, the euro zone and a number of other industrialized countries, warning that this would limit Fed flexibility.  Poole, a long-standing advocate of targeting, made plain that he did not see the merit in reflating the economy at the expense of the target in response to a severe economic shock.  "I'd be pretty adamant myself of sticking to the inflation target," he said in answer to a question. … Poole said the Fed had made large strides toward policymaking transparency under Greenspan, contributing greatly to the central bank's success and the economy's health.  However, Poole's remarks showed he remains uncomfortable with the Fed's recently adopted practice of providing forward guidance on the monetary policy path it expects to take.  He said the "measured pace" language introduced by the Greenspan Fed to characterize its current monetary tightening cycle was an example of this untested "significant departure" that may eventually need to be reassessed.  "I have been concerned ... that the Federal Reserve not make promises about the future setting of the federal funds rate that...it might not want to honor," Poole said. "I think it's a tricky business," he said. "If we can get across that these forward statements are our best guess, conditional on the information we have at the time we make them ...then I think that the forward statements may be constructive," he added.

I agree, particularly with the last statement. There is a danger of staying on a particular path too long simply because the market expects the Fed to continue along it based upon such language, and deviating from the predetermined course of action would upset markets.  I believe the message that statements such as "measured" are data dependent is beginning to resonate in financial markets and more generally as well.  If so, then signaling future intentions is a helpful development.

Update:  Here is a copy of Poole's remarks. Thanks to SCSU Scholars for the link.  William Polley says, "The speech isn't that long. As they say, read the whole thing."  Also, this editorial in the CSM "When warnings become a scare" talks about how to optimally issue warnings for events like potential earthquakes and flu outbreaks and states "How should they warn about something that might never occur? Does talking about an uncertainty help - or simply raise unnecessary fears?"  Interestingly, transparency is highlighted as essential to good policy.

    Posted by on Wednesday, July 6, 2005 at 04:50 PM in Economics, Monetary Policy | Permalink  TrackBack (1)  Comments (7)


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    » Mark Thoma Finds William Poole and Milton Friedman Thinking About the Greenspan Succession from Brad DeLong's Website

    Mark Thoma writes about people's preliminary thoughts on the Greenspan Succession--not people but processes. Noteworthy is Milton Friedman's shift of ground from rigid quantity targets--as things that ought to produce good results and that cannot be ga... [Read More]

    Tracked on Tuesday, July 12, 2005 at 03:06 PM


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