Must-Read: Tim Duy: Flying Mostly Blind Heading Into the September FOMC Meeting

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Must-Read: The extremely sharp and IMHO under appreciated Tim Duy has a very nice way of putting the Federal Reserve’s current problem: which set of labor market indicators does it believe?

Of course, since we do not know which to believe, that in itself is an argument for not tightening in order to explore the policy space…

Tim Duy: Flying Mostly Blind Heading Into the September FOMC Meeting: “Through the eyes of Federal Reserve Chair Janet Yellen as she scoped out the economic landscape in 2013…

…With unemployment at the Fed’s estimate of the natural rate, inflationary pressures will soon emerge. To be sure, wage growth remains flat, but even Yellen leans toward writing that off as an expected outcome of low productivity growth…. When combined with stable inflation expectations, policymakers have good reason to be confident that actual inflation will soon reverse course and trend toward the Fed’s target. In such an environment, financial accommodation needs to be withdrawn pre-emptively to avoid overshooting the targets…


Labor markets remain far from healed if viewed through the eyes of Yellen in 2014: Low wage growth is thus consistent with the hypothesis that underemployment indicators are important measures of labor market health. The persistence of weak wage growth should leads to revised estimates of the natural rate of unemployment. After all, targeting 5 percent unemployment when the natural rate is 4 percent means denying jobs to roughly 1.5 million people. That’s no small responsibility…. If you are uncertain of your estimate of the natural rate and inflation is moving away from target, why rush to hike rates?… And market-based measures of inflation expectations do not signal a revival of inflation anytime soon. Recent financial turbulence also calls into doubt the wisdom of raising rates next week….

Ultimately, the Fed will need to choose between one of these two arguments, and by doing so they will define a direction for policy. This will be important new information. Ultimately, we will learn who rules the roost at the FOMC–the Janet Yellen of 2013, or the Janet Yellen of 2014.”

September 8, 2015

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