Download Monetary Policy, Incomplete Information, and the Zero Lower Bound

Discussion of
“Monetary Policy, Incomplete Information,
and the Zero Lower Bound”
Andrew Levin
Dartmouth College and NBER
November 2015
The views expressed herein are solely my own responsibility
and should not be attributed to any other person or institution.
General Comments
● Important and timely topic: risk management at the ZLB
● Clear analytical framework: stylized New Keynesian model
● Rigorous solution method: parametrized expectations
● Sensible policy implications: uncertainty about the strength of
aggregate demand warrants caution in determining the timing
of liftoff from the ZLB
Items for Discussion
● Intuition for key finding
● Magnitude of practical implications
● Robustness to model extensions
The Driving Analogy
● Perfect Foresight: driving a familiar car on a flat rural highway
with well-maintained pavement, approaching a stop sign that is
clearly visible at a considerable distance.
==> Start applying the brakes well in advance and slow down
gradually so that the car comes to a smooth stop.
● Imperfect Information: driving an unfamiliar vehicle up a steep
country road that has lots of curves and some muddy conditions,
with a stop sign located at the top of the hill that is not yet visible.
==> Be careful to preserve momentum and be mindful that the
accelerator will be useless if the car gets stuck in the mud.
The Evolution of the FOMC’s Outlook
for Real GDP Growth
Percent
Actual GDP (4-quarter chg.)
Nov. 2010 SEP
Nov. 2011 SEP
Mar. 2014 SEP
Mar. 2015 SEP
Average Rate (2010-2014)
Longer-Run Normal Rate
5.0
4.5
4.0
3.5
3.0
2.5
2.0
1.5
1.0
2010
2011
2012
2013
2014
2015
2016
The Evolution of the FOMC’s Outlook
for Core PCE Inflation
Percent
2.3
Core PCE Inflation
March 2013 Forecast
March 2015 Forecast
2.2
2.1
FOMC Target
March 2014 Forecast
2.0
1.9
1.8
1.7
1.6
1.5
1.4
1.3
1.2
2011
2012
2013
2014
2015
2016
2017
Professional Forecasters’ Assessments
of the Equilibrium Real Interest Rate
Percent
3.00
Blue Chip Consensus
Interquartile Range
2.75
2.50
2.25
2.00
1.75
1.50
1.25
1.00
0.75
0.50
0.25
0.00
2007
2008
2009
2010
2011
2012
2013
2014
2015
Source: Blue Chip Economic Indicators. Copyright (c) Aspen Publishers
Two Approaches for Determining
the Appropriate Stance of Monetary Policy
● Forecast Targeting: A specific macroeconomic model (usually with
judgmental adjustments) is used to determine the policy path that
is expected to generate the most appropriate outcomes for real
economic activity and inflation over the forecast horizon.
● Simple Policy Benchmarks: A range of plausible macro models
(along with lessons from practical experience) are used to identify
simple benchmarks—such as variants of the Taylor Rule—that
generate robust outcomes for economic activity and inflation.
 Each approach has distinct merits and pitfalls, and hence both
approaches should inform the actual conduct of monetary policy.
Assessing Monetary Policy Implications
using Simple Benchmarks
CBO Output Gap (2015:Q3) = -3.1 percent
Core PCE Inflation (12-mo. chg.) = 1.3 percent
Taylor Rule
“Balanced Approach” Rule
(cf. Taylor 1999)
Fixed R*
1.4
-0.2
Time-Varying
R*
0.4
-1.2
Average Hourly Earnings of
Production & Nonsupervisory Workers
Percent
7
3-month Change
12-month Change
6
5
4
3
2
1
0
-1
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
The Wage Curve, 1985-2015
Percent
4.50
4.25
4.00
3.75
Nominal Wage Growth
3.50
3.25
3.00
2.75
2.50
2.25
Nov. 2015
2.00
1.75
1.50
1.25
1.00
-2
-1
0
1
2
3
4
5
6
7
Employment Gap
Source: update of Blanchflower & Levin (NBER WP, March 2015)