This week the House Financial Service Committee voted to approve legislation requiring the Fed to report a policy rule or strategy for setting the instruments of monetary policy. The legislation now goes to the full House, with a vote likely sometime in September. Technically the Committee vote was on a “Motion to Report Favorably H.R. 5018, The Federal Reserve Accountability and Transparency Act of 2014, as amended.” The requirement for policy rules is Section 2, the first main section of that bill. (For a civics lesson, you can watch the clerk of the Committee count the Ayes and Nays on this video starting at 45:55 and ending with “Mr. Chairman the ayes were 32 and the nays were 26”)
Since this bill was first introduced on July 7 there have been hearings and a lot of interesting commentary in op-eds, TV interviews, blogs and social media as I summarized in previous posts here and here.
More commentary came this past week including importantly from former Fed Chair Alan Greenspan who said this on Bloomberg TV at 13:00
“What I found very interesting is that this new legislation, which of course is to match the Taylor rule, came out recently. When the Taylor rule was originally [proposed] in his econometric analysis of what the Fed was doing from 1987 to 1993. So I think that if we could replicate that in some form or another that’s the way we should be functioning. The problem however is going from where we are now, which is a very bloated set of balances sheets, which require an unprecedented procedure. We are not yet back to the point where we have a normalized monetary policy. And I think that‘s a critical question that’s going to be an experiment issue. It’s going to be very tough.”
Of course the legislation does not require the Fed to follow the Taylor rule—that rule simply serves as a reference rule. But Greenspan reminds us that during periods when the economy was doing well, policy was close to the recommendations of such a rule, and as a matter of logic monetary policy should try to replicate that.
Other commentary worth studying includes Martin Feldstein’s Fighting the Fed on Project Syndicate, Peter Ireland’s A Useful Rule for Monetary Policy on Ec21, David Papell’s How Janet Yellen Might Have Responded to the Policy Rules Legislation on Econbrowser, and Simon Johnson’s The Fed in Denial on Project Syndicate.
Feldstein says that the legislation “still leaves the Fed substantial discretion” while Ireland and Papell show, in different and complementary ways, how the Fed could conduct policy if the new legislation was in place. Simon Johnson is more skeptical and criticizes the Fed on other grounds.
Feldstein also delves into the history of thought when he writes that the Taylor rule was “based on his statistical estimate of what the Fed appeared to have been doing under Paul Volcker and Alan Greenspan during a period of both low inflation and low unemployment.” But my paper had no statistical estimates. The design of that rule, including the choice of right-hand-side variables and the left-hand-side interest rate instrument, was based on research with new monetary models that I was developing at the time, especially simulations of alternative rules in such models. I compared the proposal with decisions during the early Greenspan period (but not the Volcker period) to show that the proposal was practical, as I wrote in a blog several years ago.