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Monday, April 02, 2007

Brad DeLong on "Greenspanese"

Can you talk the talk?:

The secret language of central bankers, by J. Bradford DeLong, Project Syndicate: "If I seem unduly clear to you," Alan Greenspan said to his political masters in the United States Congress, "you must have misunderstood what I said."

It was 1987, and the newly-confirmed chair of the Federal Reserve was elaborating on how he had "learned to mumble with great incoherence" in the short months since he had "become a central banker".

Greenspan was a strong believer, in practice if not in theory - for who could understand his theory? - that central bankers should speak in an opaque and convoluted dialect. In comparison, the Oracle at Delphi's advice to the King of Lydia - "If you attack Persia, you will destroy a great kingdom" - is clarity itself.

There was an old argument for "Greenspanese": voters or politicians or both are inherently short-sighted and myopic. They would always see and want to grasp the benefits of lower interest rates and a little more demand pressure - more production, more employment, higher wages, and higher profits in the short run. But they would either not see or be cynically indifferent to the problems of stagflation that would inevitably follow. The job of the central bank, according to Greenspan's distant predecessor, William McChesney Martin, was to "take away the punch bowl [of low interest rates] before the party really gets going".

But, the argument went, the Fed could not say that this was what it was doing in clear and transparent language, for, if voters and politicians could understand central bankers, they would then force them into following destructive inflationary policies that would be worse for everyone, at least in the long run. By using an opaque and convoluted idiom, the only outsiders - reporters, politicians, and academics - who would be able to understand what the central bank was saying would be those who had carefully studied the issues and the language. This, in turn, would lead them all (with the rare exception of a maverick critic like William Greider) to understand and approve, and to agree that talking in "Greenspanese" is essential for enabling central banks to ensure price stability.

There seems to be general agreement today that this argument no longer applies, if it was ever truly valid. Voters and politicians today, it seems, fear inflation and are willing to accept occasional economic recessions and unemployment above its natural rate as unfortunate but inevitable consequences of the necessary and beneficial pursuit of long-term price stability. The debate about monetary policy can thus be fruitful and productive even if it is no longer restricted to those who have learned "Greenspanese". 

Thus, all across the North Atlantic core of the world economy, central banks have embarked on a "transparency" initiative to make their organisation's goals, guesses, procedures, and policies more widely and clearly known. They are relying on economists' basic predisposition to believe that more information is always better than less, that individuals are good judges of what they need to know, and that they are able to evaluate and place in perspective what they know.

But recently - and increasingly so in recent months - central bankers' doubts about the utility of the transparency initiative have increased. The more central banks talk, and the clearer they try to make their language, the more it seems that markets may be reacting excessively and inappropriately to statements that are not really news at all. More information may be leading not to better knowledge, but to more confusion.

We economists have a hard time figuring out why there appears to be so much static on the communications line. Why were so many people in financial markets so sure that the Fed's late-March meeting statement heralded a likelihood of interest-rate hikes soon, rather than being simply an acknowledgement (as the Fed explicitly stated) that what had been very unlikely was now a possibility? Why are cable TV personalities so eager to overstate how quickly central banks change their view of the likely future? Why do participants in financial markets trade on the advice of cable TV personalities when a small amount of number-crunching reveals that the benefits must be lower than the transactions costs incurred by over-frequent trading?

We don't have answers to these questions. So we really don't know whether we should tell central bankers to brush up on their Greenspanese.

It's hard for me to argue that more information (as opposed to more noise) makes market participants worse off and it's possible that the reactions would have been even further off the mark if the Fed had been less clear about its future intentions, i.e. less transparent. So I'm an advocate of transparency, even more than we have now.

A lot of this could be solved, I think, if the Press Release following rate decisions at FOMC meetings would simply state what the Fed is trying to convey directly instead of leaving us to interpret the meaning of a changed word in a particular sentence. I don't think the form of communication they have adopted is particularly effective. For example, Bernanke's appearance before Congress after the meeting seemed to clarify the message rather than further confuse market participants indicating that it may be the quality of the information that is at issue. Thus, before drawing the shades and retreating into the coded, opaque language of the past, I'd encourage the Fed to investigate alternative communication strategies first.

    Posted by on Monday, April 2, 2007 at 03:06 PM in Economics, Monetary Policy | Permalink  TrackBack (0)  Comments (3)

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