The Case For Monetary Cranks

Kansas City President Thomas Hoenig is the Uriah Heep of central banking. “We ought to be very, very humble in our expectations of what we can do with this instrument we call monetary policy,” says Hoenig, who retires this week after racking up eight straight dissents last year as a voting member of the FOMC. But would tighter monetary policy imposed six months or a year earlier be paying macro dividends now? Let’s be generous and say that it’s debatable. Still, the prescription endures.

In an interview with NPR, Hoenig complains that “in a world of instant gratification, we have had two decades in this country of consuming more than we produce by a considerable margin.” As part of the solution, he recommends spending cuts and tax hikes, NPR reports. Now? In this economy? So much for humility.
The punishment, it seems, must fit the crime, Hoenig suggests. Monetary policy as punitive social policy? But austerity now isn’t helping Europe, and it’s not clear that it would help the U.S. economy at this point, as history suggests.
What is conspicuous is that the market’s inflation expectations have been falling since the spring. The implied inflation outlook via the yield spread on the nominal 10-year Treasury less its inflation-indexed counterpart is under 2%, the lowest in nearly a year. That’s a problem for a weak economy, a point that Fed Chairman Ben Bernanke seemed to notice anew. In a speech yesterday, he explains that “if inflation falls too low or inflation expectations fall too low, that would be something we have to respond to because we do not want deflation.”
The comment inspires Marcus Nunes to recommend that “we must reevaluate Bernanke´s supposed knowledge about the power of monetary policy.”
Meanwhile, facts are stubborn things. As David Beckworth explains, the Fed’s “passive tightening” is squeezing the economy. “The result is that current dollar spending–the product of the money supply and money demand–is not where it should be, as seen in the figure below:

Isn’t an accommodative monetary policy at this point just reckless money printing? Scott Sumner dispatches that idea with in one fell swoop: “Yes, but like a broken clock the monetary cranks are right twice a century; 1933, and today. The other 98 years I am a Chicago-trained, libertarian, inflation-hawk. Twice a century I put on my Irving Fisher super-hero suit, and emerge from my deep underground bunker.”