Thursday, September 13, 2007
god help us, we're in the hands of an economic model
The MAQS are in charge of the quantitative model of the U.S. economy known as FRB/US or ``Ferbus.'' By adjusting for such things as higher financing rates for American companies or a sharp decline in home prices, the team provides policy makers a glimpse of possible outcomes.
The scenarios -- known at the Fed as ``alt sims'' or alternative simulations -- are especially important at next week's meeting because the vote will likely be cast on the dangers that the forecast is better or worse than reported, former Fed officials said.
``The FOMC will start by looking at the standard calculation'' of how changes in home prices and credit spreads affect the outlook for employment and inflation, said Douglas Elmendorf, an assistant director of the Federal Reserve Board's research and statistics division from 2004 to 2007.
Policy makers will then ask, ```Where do we see the risks arrayed around the baseline?''' said Elmendorf, now a senior fellow at the Brookings Institution in Washington. ``Alternative simulations are quite important, particularly because of the Fed's announced interest in risk management.''
The methodical approach has some pining for the good old rapid-response days of Greenspan, who called six emergency rate meetings between 1992 and 2001. Five of those resulted in reductions as he sought to head off recession or ease gridlock in capital markets.
i applaud any extent to which bernanke gets the data -- doing so is likely to make it harder for the fed to perpetuate the moral hazards that were greenspan's lifeblood and which helped the american economy into the debt trap that may now be closing around it.
but i'm also apprehensive. these economic models are of a kind with all of those which are still giving mainstream economists reason to say that there is no recession coming -- in spite of a credit crunch, declining employment, nascent consumer weakness and a residential housing depression that is now being joined by a commerical real estate downturn. recession, it seems to this lowly observer, is here.
the fed is already holding the funds rate near 5% through liquidity injections, so i would think a quarter-point cut is already baked in to this monday's announcement as a formalizing of extant conditions. but the market is clearly cheering for a half point -- and to some extent has already anticipated as much, with the dollar falling to new lows and some nascent strength returning to financials. and it is doing so against an inflationary background that is not sanguine, though there is certainly credit destruction underway.
what if the data-driven, inflation-concerned, lagging, incrementalist fed of bernanke -- if it really exists, which is a matter of some debate -- gives them a quarter-point and no more? how do markets react?
i have long tended to think the governments of the united states and britain as essentially the same, the latter little more than a division of the former. so it was interesting to hear mervyn king of the bank of england yesterday take a hard line in advance of the fed meeting. is he telegraphing bernanke?