People Who Warned the Fed Are Very Smart and Very Wrong

Federal Reserve building in Washington Photograph by Andrew Harrer/Bloomberg

As top economist Elton John once said, or rather sang, sorry seems to be the hardest word. In 2010, a group of academics, economists, and money managers sent an open letter to the Federal Reserve warning that its policies risked “currency debasement and inflation.” Four years later the dollar is rising, not falling, and inflation is too low, not too high. In other words, they were wrong. At least so far. But as Bloomberg News reports today, none of the signatories is saying, “Oops, my bad.”

Nine of the letter writers were big enough to explain themselves to Bloomberg. Their defenses fall into a handful of categories that are familiar to students of other failed forecasts of doomsday, such as radio preacher Harold Camping‘s confident prediction that the world would end in October 2011.

Just Give It Time: Amity Shlaes, chairman of the Calvin Coolidge Memorial Foundation, wrote in an e-mail, “Inflation could come, and many of us are concerned that the nation is not prepared.” And Geoffrey Wood, a professor emeritus at City University London’s Cass School of Business, said, “Timing is close to totally unpredictable.” True. And a stopped clock is right twice a day.

Inflation Did Rise. You Just Missed It: This requires some fancy footwork, since the Bureau of Labor Statistics says the Consumer Price Index rose just 1.7 percent over the year through August. Jim Grant, publisher of Grant’s Interest Rate Observer, said, “I think there’s plenty of inflation—not at the checkout counter, necessarily, but on Wall Street.” What he’s saying is that stock prices have gone up, which most people don’t regard as a terrible thing. If the letter writers had warned in 2010 that people’s stock portfolios were going to grow, rather than warning that consumer prices were going to shoot up, then Grant would have been exactly right.

If Only They’d Paid Attention: The letter said that the Fed’s policy of buying bonds to lower interest rates wouldn’t boost employment. And sure enough, “Working-age employment is lower now than at the end of the recession,” said John Taylor, an economist at Stanford University. Actually it’s higher, not lower. Probably what Taylor meant is that employment is lower as a share of the population—fair point. We’ll never know if employment would have been stronger if the Fed hadn’t tried quantitative easing. But payrolls have increased by about 8.5 million since the letter was written, and the unemployment rate is so low that many of those same letter writers are warning that the economy is at risk of overheating.

There Are “Distortions:” The Fed critics’ letter warned that quantitative easing would “distort financial markets.” This is the easiest case to defend, since distortions are in the eye of the beholder. Low interest rates hurting savers? A distortion. Investors encouraged to invest in riskier assets? A distortion. “It’s the question of suitability,” Grant said. This is a legitimate criticism, but the trade-off is one the Fed was aware of when it embarked on asset purchases.

We Were Absolutely Right: Said the Cass School’s Wood, “I think everything has panned out.” Said David Malpass, former deputy assistant Treasury secretary, “The letter was correct as stated.” When all else fails, claim victory.

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