Tag: monetary theory

Say It Ain’t So, Fed, Say It Ain’t So

The Federal Reserve broke my heart recently.

Now you might think that today’s post is about something to do with monetary policy, or the taper, or something high falutin’ like that.

Nope. It’s about a game. The Fed Chairman game, to be specific. And I’m heartbroken because the Federal Reserve took it down:

Thank you for your interest in the monetary policy game, Chair the Fed. The game has been a useful and fun tool to learn more about monetary policy. However, the Fed has updated its approach to monetary policy, and the changes are not readily accommodated within the existing structure of the game. As of June 1, 2021, the game is no longer available.
You can learn more about the Fed’s policy updates here. Be sure to also check out FOMC Rewind, a texting video series that summarizes the FOMC’s meeting statements.
In the meantime, we encourage you to connect with us on Twitter, Instagram, LinkedIn, and Facebook.

https://www.sffed-education.org/chairthefed/default

So what was the game all about? Well, you got the chance to “be” the Fed Chairperson for sixteen quarters, or four years. You had to “react” to events that took place in the economy by raising or lowering interest rates, in order to meet two objectives. First, you had to make sure that inflation was as close to possible to 2% over the duration of your term, and second, you had to make sure that unemployment was as close as possible to 5% over the duration of your term.

The game was designed with some sort of a payoff between inflation and unemployment, and the reason I use the phrase “some sort of” is because I do not know quite what the functional form was. If you played the game long enough, you figured out pretty quickly that there would be a “crisis” at the end of your fourth quarter in charge. And the remaining 12 quarters were essentially an exercise in firefighting.

Inflation in the game had a way of getting out of hand pretty quickly, and unless you were quick enough to react and adjust real interest rates quickly enough, each successive quarter would have the economy spiraling quickly out of control. Of course, if you knew your monetary theory well enough you could figure out how to “win”.

Here’s a screenshot of the game layout:

Source: The Hill

And here’s an example of how quickly things could get out of hand:

Sourcehttps://i.ytimg.com/vi/5PAJtUjikis/maxresdefault.jpg

The last sentence from the previous version bears repetition: Of course, if you knew your monetary theory well enough you could figure out how to “win”.

That’s the point!

And that’s why I wish the Fed would reinstate the game. Because playing the game was a great way to get students to learn what monetary policy looks like in action. Sure, you can have students read Mishkin, or any other monetary text. And sure you can have them go through as many PDF’s released by both the Federal Reserve and the RBI. But nothing beats having the class split up into two teams, and playing three rounds each of this game.

After that, explaining the monetary transmission mechanism, or the Philips curve, or inflation expectations, or what “dovish/hawkish” means was child’s play. Because you see, they’d seen the effects for themselves.

So, dear whoever-is-in-charge-of-this-at-the-Federal-Reserve, I completely agree with you when you say that “the Fed has updated its approach to monetary policy, and the changes are not readily accommodated within the existing structure of the game”. No game could (or should) have envisioned the last eighteen months, and its ramifications on monetary policy.

But the game still served as such a magnificent jumping-off point for discussions about what transpired in the last eighteen months. “So now you’ve understood how monetary policy works under usual circumstances and most crises”, you could say at the end of the session. “But what about what the world went through in the last eighteen months? Would these tools be enough? Why or why not? What other tools does the Fed have in its arsenal? Which are most appropriate to use under these circumstances? Why?”

My point is that it was, and it still remains, a great way to introduce the subject to anybody, and especially those of us who’re learning about monetary policy for the first time. And there’s, in my case, about twelve years of students who I subjected to this game – and I’m pretty sure they would all agree with the request I’m about to make.

Please, dear ol’ Federal Reserve. Pretty please, with a cherry on top. Please bring the game back. It’s a great teaching tool, and classrooms are more boring without it.

EC101: Links for 20th June, 2019

  1. “One needs to be cautious in these type of businesses trading at higher multiples as slip in any one of the parameters – decline in sales and profit growth, build up of debt, deterioration in working capital, capital misallocation – wrong acquisitions and expansions will lead to derating of the stock quickly. The company has shown no signs of these as of now and investors need to keep a close look at these.”
    ..
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    A vastly under-rated skill among economics students. The theory of (and in this case also the application of) reading a balance sheet. Read this article to get a sense of how to read one – and in an ideal world, try to write a similar article about a firm of your choice.
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  2. “In other words, to quote Simon, “so long as the rate of interest remains constant, an advance in technology can only produce a rising level of real wages. The only route through which technological advance could lower real wages would be by increasing the capital coefficient (the added cost being compensated by a larger decline in the labor coefficient), thereby creating a scarcity of capital and pushing interest rates sharply upward.” In other words, the price of capital would have to rise by more than the price of consumption.”
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    Under what circumstances will advances in technology cause the real wage rate to go down? The vastly under-rated Herbert Simon provided an answer to this question way back when – read this article to find out its rediscovery.
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  3. “Now that the crisis is in the rearview mirror and the current expansion is nearing the longest on record, is it possible to go back to having a balance sheet as small as in 2007? The answer is no. The amount of currency in circulation has grown so much that it is not possible to shrink the balance sheet to its earlier size. This is good news because it reflects a growing economy. The larger balance sheet also reflects banks wanting to hold more reserves at the Fed. Banks partly hold these highly liquid and essentially risk-free assets to meet new liquidity regulations designed to improve the resilience of the overall financial system.”
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    A short, but useful essay about the huge expansion to the Federal Reserve’s balance sheet, and why it is unlikely to shrink anytime soon. A useful read for students of monetary economics.
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  4. “The correlation phrase has become so common and so irritating that a minor backlash has now ensued against the rhetoric if not the concept. No, correlation does not imply causation, but it sure as hell provides a hint. Does email make a man depressed? Does sadness make a man send email? Or is something else again to blame for both? A correlation can’t tell one from the other; in that sense it’s inadequate. Still, if it can frame the question, then our observation sets us down the path toward thinking through the workings of reality, so we might learn new ways to tweak them. It helps us go from seeing things to changing them.”
    ..
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    The phrase is burned onto my brain, as it is for everybody else who ever attended a statistics class. “Correlation is not causation” Sure, it isn’t – but this article warns us against the over-use of this phrase, and how it might have ended up making us not think deeper.
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  5. “The Baumol effect reminds us that all prices are relative prices. An implication is that over time prices have very little connection to affordability. If the price of the same can of soup is higher at Wegmans than at Walmart we understand that soup is more affordable at Walmart. But if the price of the same can of soup is higher today than in the past it doesn’t imply that soup was more affordable in the past, even if we have done all the right corrections for inflation.”
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    A short, but very readable interpretation of the Baumol effect – and as this excerpt makes clear, also a great reminder of the fact that all prices, everywhere and always, are relative.

Links for 21st February, 2019

  1. “Premise 1: The only coherent way of characterizing monetary policy as being either too “easy” or “tight” is relative to the policy stance expected to achieve the central bank’s goals.Premise 2: “Monetary policy can be highly effective in reviving a weak economy even if short-term interest rates are already near zero.”
    Premise 3: After mid-2008, and especially in early October, the expected growth in the price level and nominal GDP fell increasingly far below the Fed’s implicit target.”
    Scott Sumner reviews a decade’s worth of blogging about one topic, and one topic only – his understanding of monetary theory. The three premises, and the conclusions, policies and problems that arise from there is what the next ten ears have been about. There are two reasons why reading this post is worthwhile. Number one, it helps you understand (I think) monetary policy better. This is true irrespective of whether or not you agree with him. Second, and perhaps more importantly, if you had to write down three ideas about which you could continue to write for the next decade – what would those ideas be? I’m still struggling to find an answer myself!
  2. “There’s a different thrill here for me which is actually the thrill of refutation of confirmation. With theory it’s almost like it emerges out of nothing. And really it’s only in our heads, it’s not something that we have seen before. It is a pure outcome of imagination and there’s a thrilling magnetism to that because that imagination might be right. For me that is the most amazing thing, being guided only by mathematics.”‘The correct analogy is that there’s this singular somewhere in the ocean and you don’t know where — there is only one giant white whale and you need to go kill it because it bit your leg off.””
    Longreads.com, if you are not aware of it already, is just a fantastic website, full of hidden and not-so-hidden treasures. This particular piece was commissioned by Long Reads itself, and is worth reading because of the search for the so called ninth planet, but also because it explains why you should read (and re-read) Moby Dick – because reading Moby Dick helps you understand the link between monetary policy and the hunt for a planet that should exist.
  3. “Solving problems of will requires giving the poorest citizens information and the political heft to hold their leaders accountable. That is best accomplished by strengthening democratic institutions. Poverty is political: Solving problems of will, like problems of capacity, requires rolling up our sleeves and working with the governments in the countries where the poor live to redistribute not only income, but also power.”
    There is much to ponder upon, and at least in my case, disagree with in this article. Read especially the part about India’s space program. But that being said, the article itself is worth reading because it highlights the problems of thinking about poverty – and doing the thinking across space and time. And that solving poverty requires institutional growth is a well understood concept in development economics – but not necessarily outside it.
  4. “It is true that most people are disengaged from serious news, and vote with their guts rather than their heads, or being guided by friends rather than a close reading of policy analysis. That does not make them fools.There is much to concern me in the current political information environment. I worry (partly selfishly) that it is harder than ever to sustain a business that provides serious journalism. I worry that politicians around the world are doing their best to politicise what should be apolitical, to smear independent analysis and demean expertise.I worry that there is far too little transparency over political advertising in the digital age: we don’t know who is paying for what message to be shown to whom.The free press — and healthy democratic discourse — faces some existential problems. Fake news ain’t one.”
    The always excellent Tim Harford on why we overrate Fake News, and should maybe not spend so much time worrying about it – and that the world is saner than it might appear…
  5. “Soon, I will experiment with “atemporality.” For days or weeks at a time, I will escape the present moment and only consume content published in a different decade. For example, if I want to learn about the 1970s, all my media consumption will consist of books, videos, and interviews published in the 1970s. By doing so, I’ll embody the mindset of people in a bygone era and gain new perspectives on the here and now.Everything has been said before. The big concepts aren’t new. You’ll find them in old works. Nassim Taleb calls this the Lindy Effect: “The longer something has been in print, the longer it will remain in print and the higher value it is.”

    With just a couple taps, we can transform our relationship with time, ignite our sense of history and escape the Never-Ending Now.”
    … David Perell has some interesting ideas about how we might solve the problem Tim Harford speaks about above. One way of escaping Fake News, is to escape news itself. Maybe not for ever, and maybe not everyday – but escaping into the past by using the tools now available to us is a good idea.