The BIS ‘house view’ and leaning against the wind
Plus, RBA Governor Lowe seeks second term; the US November CPI release and Australia’s Q4 CPI
It is always amusing to see the research output of the BIS written up as central bank orthodoxy. Adam Tooze regularly recycles and half-critiques BIS publications without appreciating the extent to which they often represent a caricature of central bank thinking that is largely rejected outside the BIS.
A 2012 BIS paper by Cecchetti and Kharroubi purported to show empirically how the financial sector was crowding-out real economic growth, one of several influential contributions to the ‘too much finance’ literature. But as Bill Cline pointed out, their empirical results were spurious due to their failure to understand the implications of the functional form they were fitting to the data.
A long-time reader pointed me in the direction of a NIESR publication by Phillip Turner, The New Monetary Policy Revolution: Advice and Dissent, which does a good job of tracing the evolution of the BIS house view and its lack of acceptance outside the BIS. Turner summarises the Allen, Bean and de Gregorio independent review of BIS research:
‘Too often research had been tailored to find evidence in support of a house view laid down by BIS management. This house view, at odds with most research, was never very credible with economists and, the panel noted, never had much influence with central banks.’
The BIS house view is contrasted by Turner with ‘the overwhelming consensus of researchers’ exemplified by Lars Svensson:
Svensson’s framework informed the work of Saunders and Tulip, which showed in an Australian context that LAW incurred more costs than benefits, but Australian monetary policy was still heavily conditioned on LAW between 2016 and 2019.
The role of institutions in propagating monetary policy ideas is relatively understudied. Scott Sumner’s The Money Illusion highlighted the intellectual errors common to central banks in the post-financial crisis period, which helps explain why low inflation came to be experienced by many advanced economies at the same time. In a forthcoming Mercatus Center paper, I examine these issues in the context of monetary policy framework reviews in the dollar bloc periphery. One task for the RBA review, in my view, is to examine how the BIS house view came to be imported into Australian monetary policy, even after it had been thoroughly criticised by the Allen, Bean and de Gregorio independent review of BIS research.
RBA Governor Lowe seeks second term
In response to questions about his future this week, RBA Governor Philip Lowe effectively put his hand up for a second term when his current seven-year term expires in September next year. As we have suggested here previously, sometime between March and September next year, the government is likely to make a joint announcement of its response to the RBA review and a decision about the appointment of a new governor.
If ASIC had not effectively banned them, it would be interesting to know what prediction markets would say about Governor Lowe’s future at this point. This is a good example of how the regulatory suppression of prediction markets denies us access to distributed and tacit knowledge about future event risks.
US November CPI and Q4 Australian trimmed mean inflation
The US November CPI came in lower than expected at just 0.1% on the month and 7.1% on the year compared to 7.7% in October. Since the middle of the year, the US CPI has grown at annual rate of just 2.5%, which, in Australia, would be consistent with the middle of the target range:
The Cleveland Fed’s trimmed mean measure moderated to 0.2% in November from 0.4% in October and an average 0.5% monthly rate in Q3. Putting that into our model for the Australian trimmed mean still yields an estimate of 1.6% q/q and 6.6% y/y for Q4 compared to 1.8% q/q and 6.1% y/y in Q3. This is unchanged on a rounded basis from what we were expecting based on the US October CPI, but does lower the forecast on an unrounded basis.
This would put the trimmed mean inflation rate a little ahead of the 6.5% y/y rate the RBA forecast for Q4 in its November Statement on Monetary Policy, but would still constitute a welcome moderation in the quarterly rate of trimmed mean inflation. The ABS monthly CPI indicator recorded a 0.3% m/m increase for its trimmed mean in October, down from the 0.5% m/m pace seen in every prior month since May. So we are still on track for a year-end peak in the domestic inflation process, barring new shocks. We will update the Q4 inflation outlook closer to its release on 25 January next year.
US December FOMC meeting
This week’s US FOMC meeting raised the target federal funds rate 50 bp to a range between 4.25-4.5%—the highest nominal rate in 15 years. The Fed demurred on a fifth consecutive 75 basis point rise, given moderating inflation, but Fed Chair Powell told the post-meeting press conference that the Fed doesn’t plan to moderate its tightening cycle as quickly as markets assumed : ‘The inflation data received so far for October and November show a welcome reduction in the monthly pace of price increases. But it will take substantially more evidence to give confidence that inflation is on a sustained downward path.’
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