Monetary policy transparency US style

I opened the Wall Street Journal website this morning and noticed a prominent piece of advocacy (and here) , making the case for not increasing the Federal funds rate target yet. Plenty of market and other commentators openly run either side of that argument. But this column was from Narayana Kocherlakota, President of the Minneapolis Fed, and rotating member of (and permanent participant in) the Federal Open Market Committee, which takes monetary policy decisions in the US.

This is no, “on the one hand, on the other hand” treatment, but an article that begins with the rather bold statement

I’m often asked by members of the public about the biggest danger facing the economy. My answer is that monetary policy itself poses the biggest danger.

In his view, raising interest rates in the near-term would “create profound economic risks for the US economy”.

I happen to mostly agree with Kocherlakota’s conclusion –  since core inflation remains very low, and there is little or no sign of a quick return to the target rate –  but that isn’t my point.  I drew attention to the article because of the refreshing contrast  it represents to the way in which monetary policy deliberations and debates occur in New Zealand (and, to a lesser extent, in most other advanced countries).

I’ve highlighted previously that the Reserve Bank of New Zealand is just not that transparent about monetary policy.  Their formal model remains under wraps, written advice to the Governor on OCR decisions is kept secret, and no minutes of the Monetary Policy Committee or the Governing Committee are published.  The Bank was recently forced to release background papers for an OCR decision and Monetary Policy Statement from 10 years ago, but experience suggests they would fight very hard to avoid releasing rather more recent papers.  And that is even though all this material is official information, generated at the cost of your taxes and mine.

But one of the key features of forecast-based discretionary monetary policy (what the Fed, and the Reserve Bank and most other central banks try to practice) is how little any of us knows with any certainty.  Reasonable people can reach quite different views, not just on the outlook but on where the economy and inflation pressures are right now.  Reasonable people can also differ on how the Policy Targets Agreement should be best interpreted and applied.   And views inside central banks are typically no more monolithic –  if perhaps equally prone to herd behaviour –  than views outside.

So what is gained by maintaining the secrecy?  In some areas of public life there might be a real need for temporary secrecy.  Shaping negotiating positions, and identifying bottom lines, in trade negotiations might be an example.  But monetary policy deliberations aren’t like that.  The reputation of the Federal Reserve system doesn’t suffer because Kocherlakota runs a dovish line right now, or James Bullard runs a hawkish line. If anything, the reputation of the system is enhanced, because people can see able people grappling with the range of issues and evidence that need to feed into monetary policy decisions, and can test and evaluate the arguments those people are making.

Of course, it is much easier to adopt such a model in the US system, where FOMC members are independently appointed, and are not dependent on Fed system chair for pay or resources or the like.  It would be much harder to do in the New Zealand system at present, where all those who have a formal say in the system are senior staff, appointed by and accountable to the Governor.  But that only goes to highlight the weakness of our system, and why it would not be appropriate, when Parliament reforms the Reserve Bank Act, to simply give all decision-making powers to a group of senior managers and insiders.  Monetary policy issues like those we –  and the US, and most other countries face –  need robust and searching debate, and especially in a small country much of the expertise is tied up inside government institutions.  We need to create a culture that can encourage debate, and can live with differences of perspective.   I’m not suggesting that all debate should take place in public, but that there is a place for those actively involved in the decisionmaking process to participate openly in debate on these important issues, as happens in the United States or Sweden (and to a lesser extent in the UK)

Even now, if, for example, Deputy Governor Geoff Bascand opposes OCR cuts, we –  and not just the Governor –  should hear his case. Perhaps, with hindsight such an argument might prove right, or perhaps not.   In the nature of these things, no one is ever going to have the answer right all the time, and so in a collective decision-making model, of the sort other countries have, we should be holding participants to account not so much for any particular call, but for the quality and tone of the arguments and judgements each participant brings to the table.   Under the current system, perhaps a start might be made by publishing the written OCR advice the Governor gets prior to each OCR decision, and the minutes of the Governing Committee, when – straight after the MPS –  that information goes to the Bank’s Board.  But that is no more than a start: we need to move towards a system where an independent committee makes monetary policy decisions.  Under such a model, the Governor and staff would still have a crucial role, but their primary role would be advising the decision-makers.

In the next few days I want to come back to the much more severe problems of lack of transparency around the regulatory and supervisory functions of the Reserve Bank.

3 thoughts on “Monetary policy transparency US style

  1. Interestingly, Kocherlakota was previously an adherent to the theory that the US should raise interest rates to generate inflation.

    I kid you not.

    But the beauty of the US system is that his change of heart from extreme hawk to dove is all in the public record.


  2. yes – it really emphasises the uncertainty. I’m certainly very conscious that although I’ve probably been on the right side in monetary policy calls in the last few years, there are plenty of other calls over the years that I’m a bit embarrassed by with the benefit of hindsight. From memory, I was either recommending an OCR increase, or at least a tightening bias, as late as the start of 2008.


  3. OCR increases should only occur 6 monthly or annually. The speed of adjustment every quarterly is a rather painful adjustment especially in a upward direction. A 0.25% increase is a 10% increase in the OCR from a low point of 2.5%.


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