Former Fed President Demands Negative Rates To Combat “Terrible” Fiscal Policy

Narayana Kocherlakota is a funny guy.

Before abdicating his post at the Minneapolis Fed to former Goldmanite/TARP architect Neel Kashkari, Kocherlakota was the voice of Keynesian “reason” for the FOMC.

Although his pronouncements never measured up to the power of the Bullard, Kocherlakota did call on a number of occasions for MOAR dovishness, noting that if the US economy were to decelerate (which it has), more asset purchases may be warranted.

He’s also suggested on a number of occasions that if the government wants to help the Fed out, it will issue more monetizable debt, thus giving Janet Yellen more paper to buy in a world where central bankers are increasingly bumping up against the limits of Keynesian insanity.

In October, following the Fed’s “clean relent”, Kocherlakota suggested that the time has come for NIRP in the US. As a reminder, here are the bullets:

KOCHERLAKOTA SAYS FED SHOULD CONSIDER NEGATIVE RATES
KOCHERLAKOTA: TAPERING ASSET PURCHASES LED TO SLOWER JOB GAINS
KOCHERLAKOTA SAYS JOBS SLOWDOWN ‘NOT SURPRISING’ GIVEN POLICY
KOCHERLAKOTA: TAPERING ASSET PURCHASES LED TO SLOWER JOB GAINS

On Tuesday, Kocherlakota is back at it, calling for the FOMC to be “daring” and take the NIRP plunge. “Going negative is daring, but appropriate monetary policy,” he wrote Tuesday on his website. However, it’s necessary because fiscal policy makers have made “a terrible policy failure.”

Right. It’s all the fault of an inept Congress, the universal central banker scapegoat for all that ails the global economy. If only they’d issue more debt (because $19 trillion clearly isn’t enough), the FOMC would be free to buy still more bonds, but because lawmakers are recalcitrant, the Fed apparently needs to go negative in order to put the faltering US economy back on the right track and point inflation back to a “healthy” 2%.

Very worrisome signal for Fed credibility as 5 yr 5 yr forward breakevens plumb new lows … http://pic.twitter.com/OxavyW2cTD

— NRKocherlakota (@kocherlakota009) January 13, 2016

It’s too bad Narayana’s opinion no loger officially matters, because as we’ve seen in Europe and Japan, NIRP is exceptionally effective at banishing the deflationary impulse, boosting wage growth, and restoring growth.

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Full post from Kocherlakota’s website

Negative Rates: A Gigantic Fiscal Policy Failure

Since October 2015, I’ve argued that the Federal Open Market Committee (FOMC) should reduce the target range for the fed funds rate below zero. Such a move would be appropriate for three reasons:

It would facilitate a more rapid return of inflation to target.
It would help reduce labor market slack more rapidly.
It would slow and hopefully reverse the ongoing and dangerous slide in inflation expectations.

So, going negative is daring but appropriate monetary policy. But it is a sign of a terrible policy failure by fiscal policymakers.

The reason that the FOMC has to go negative is because the natural real rate of interest r* (defined to be the real interest rate consistent with the FOMC’s mandated inflation and employment goals) is so low. The low natural real interest rate is a signal that households and businesses around the world desperately want to buy and hold debt issued by the US government. (Yes, there is already a lot of that debt out there – but its high price is a clear signal that still more should be issued.) The US government should be issuing that debt that the public wants so desperately and using the proceeds to undertake investments of social value.

But maybe there are no such investments? That’s a tough argument to sustain quantitatively. The current market real interest rate – which I would argue is actually above the natural real rate r* – is about 1% out to thirty years. This low natural real rate represents an incredible opportunity for the US. We can afford to do more to ensure that all of our cities have safe water for our children to drink. We can afford to do more to ensure that our nuclear power plants won’t spring leaks. We can afford to do more to ensure that our bridges won’t collapse under commuters.

These opportunities barely scratch the surface. With a 30-year r* below 1%, our government can afford to make progress on a myriad of social problems. It is choosing not to.

If the government issued more debt and undertook these opportunities, it would push up r*. That would make life easier for monetary policymakers, because they could achieve their mandated objectives with higher nominal interest rates. But, more importantly, the change in fiscal policy would make life a lot better for all of us.

I don’t think that Chair Yellen will say the above in her Humphrey-Hawkins testimony tomorrow – but I also think that it would be great if she did.

N. Kocherlakota

Rochester, NY, February 9, 2016