Topic: Finance, Banking & Monetary Policy

Does Monetary Policy Have a Future?

I have chosen a provocative title, but it is fully justified. Fed officials are flying on autopilot, but the controls don’t work anymore, or at least not reliably. Fed watchers are largely clueless. The investment community and the economy may be collateral damage.

Let me begin by briefly reviewing the recent past. All through last year, Fed officials were signaling they would begin a program of rate increases. At first, there were going to be 8 increases of one quarter point. As the year progressed, the first increase faded into the future. Finally, in December 2015, the Fed finally hiked its new interest-rate targets by 25 basis points. In my opinion, the FOMC did so largely to keep its credibility.

At the time, I wrote that “the chief effect of Wednesday’s action and accompanying statement is to once again increase uncertainty in financial markets” (O’Driscoll 2015). I became convinced that, promises to the contrary notwithstanding, the Fed would not raise interest rates again before December 2016. Instead, policymakers would dither all year. I forecast the earliest rate hike would be in December 2016. Note, I did not predict the Fed would actually raise rates this December, just that they would not do so before. I think I have been vindicated.

Have Central Bankers “Lost the Plot?”

Recently, the UK Daily Telegraph ran a remarkable Op-Ed written by William Hague, the just-retired Conservative politician and former UK Foreign Secretary. The title alone was startling: “Central bankers have collectively lost the plot. They must raise interest rates or face their doom.”

Now I confess that I may be a little biased. Lord Hague’s article made many of the same points that Martin Hutchinson and I set out in a paper we have just prepared for Cato’s 34th Annual Monetary Conference next month, “From excess stimulus to monetary mayhem,” and I am pretty confident that he hasn’t seen our draft. What encourages me most about his piece is that it hints that the monetary policy Zeitgeist is changing — the failures of recent central bank policies are becoming increasingly obvious to anyone without a completely closed mind. The Overton Window might at last be moving in our direction.

In this post, I would like to summarize his argument and offer a few observations of my own.

Otmar Issing on the Fate of the Euro

Back in July 2015 I reminded Alt-M readers of a paper I presented at the 2012 Mont Pelerin Society meetings in Prague, as part of a session in which Otmar Issing, one of the euro’s architects, also took part. As I remarked in that last post, although Mr. Issing “put a much more favorable spin on the euro’s prospects for survival” than I did, I argued at the time that our apparent disagreement boiled down to the fact that while he chose to regard “the merest heartbeat from Frankfurt” as proof of the euro’s vitality, I considered it “for all intents and purposes already brain-dead.”

The gist of my argument was that the viability of the euro depended on strict enforcement of the 1997 Stability and Growth Pact. However, when both France and Germany were allowed to violate it in 2003, the pact ceased to be credible. “That change meant, in effect, that either the ECB’s independence or the no bailout commitment or both would have to give way, as both have indeed done.” That stage having been reached, I argued, the euro’s eventual disintegration was all but certain.

I’m bringing this up yet again because Central Banking Journal recently published a remarkable (but, unfortunately, gated) interview with Mr. Issing in which he acknowledges that the euro is indeed falling apart. What’s more, he agrees that the euro’s fate was sealed when “Germany and France violated the pact in 2003, delivering a fatal blow to the pact from which it has never recovered.”

The Yuan Makes New Lows, Donald and Hillary Should Relax

At a monetary conference in Vienna back in 2014, the distinguished Frenchman, my friend, and occasional collaborator Jacques de Larosière proclaimed that the current world monetary order should be termed an “anti-system.” He has a point – an important point. Among other things, such an anti-system invites an enormous amount of instability, as well as uninformed loose talk that influences public opinion and policy.

The Chinese yuan has been at the center of much of the recent misinformation and disinformation about currencies. For example, during the first presidential debate between Donald Trump and Hillary Clinton, Trump fingered China as the world’s best practitioner of currency devaluations – devaluations that Trump claims power China’s exports. Clinton didn’t object to Trump’s thesis. Indeed, she boarded the same bandwagon. And with the Chinese yuan making new lows, the ever-misinformed mercantilists who populate Washington, D.C. are clinging to the bandwagon, too.

What are the facts? Well, they contradict the Beltway’s conventional wisdom. Chinese exports have steadily risen since 1995, but they have not been powered by a depreciating yuan. In fact, the yuan has slightly appreciated in both nominal and real terms. The accompanying charts tell that story. Note that the real and nominal charts tell the same story because the inflation rates in the U.S. and China have been similar over the past two decades.

Venezuela’s Inflation: The Wall Street Journal’s Reportage is Off, Way Off

Recent reportage in the Wall Street Journal by Matt Wirz, Carolyn Cui, and Anatoly Kurmanaev states that Venezuela’s annual inflation rate is 500 percent. The authors fail to indicate the source for that 500 percent figure. Knowing that the most accurate estimate of Venezuela’s current annual inflation rate is 55 percent, I concluded that the Journal was way off and set out to determine the source for its incorrect figure. The most likely candidate turned out to be the International Monetary Fund’s (IMF) October 2016 World Economic Outlook (WEO), which contains an estimate for Venezuela’s annual inflation. This report projects Venezuela’s annual inflation to average 475.8 percent for 2016, a far cry from my current estimate of 55 percent. The IMF’s figure, though, gives the appearance of a finger-in-the-wind approach because no methodology accompanies the IMF’s October report. The 95% rule reigns – 95% of what you read in the financial press is either wrong or irrelevant. 


So, how does one make an accurate estimate of inflation in countries experiencing elevated inflation levels? The Johns Hopkins-Cato Institute Troubled Currencies Project calculates reliable inflation estimates. These are based on changes in black market (read: free market) exchange rates. The principle of purchasing power parity (PPP) is used to translate exchange rate changes into estimates of implied inflation rates. When inflation is elevated, this method provides deadly accurate estimates.

The Perils of Financial Over-Regulation

Last Friday, I gave the opening remarks at the International Finance Corporation’s annual FinTech CEO Summit — a meeting of many of the top executives involved in developing cutting-edge alternatives to conventional means for raising capital and making payments, among other things. Because the event wasn’t recorded, I thought I’d share the remarks with you here.


I’m honored to be able to address an audience consisting of many of the world’s leading financial-market innovators. I don’t often get invited to speak on the subject of financial technology. That’s probably because the most advanced piece of financial technology concerning which I possess any real expertise is the steam-powered coining press that James Watt and his business partner Matthew Boulton designed a bit more than three centuries ago.

Still I know enough about more recent developments to realize that, so far as the future progress of financial innovation is concerned, these are critical times. Never has there been a more crying need for financial innovation — innovation to overcome the infirmities, not only of conventional private-market sources of capital and payments services, but also of the world’s official monetary systems. Yet never has the threat government regulators and their academic advisors pose to the unfolding of such innovations been so obvious.

Nigeria Spins Out of Control, and the IMF Remains Unaware

Nigeria’s President, Muhammadu Buhari, and his government have lost control as Nigeria’s economic crisis sends that African nation into a doom-loop. Everyone, including the President’s wife, Aisha, knows that Nigeria is going down the tubes. But not the International Monetary Fund (IMF). As is often the case, the IMF doesn’t have a clue. The IMF’s October 2016 World Economic Outlook projects Nigerian inflation to average 15.4 percent for 2016.  This number is in sharp contrast to my Johns Hopkins-Cato Institute Troubled Currencies Project’s inflation estimate for Nigeria. We estimate that the year-over-year inflation rate is currently 104.8 percent (see the chart below). 

Why is the IMF so far off base? Because it is doing what it often does: it is taking the Central Bank of Nigeria’s (CBN) official inflation data at face value. That official rate averaged 14.3 percent from January to August of this year. For the IMF forecast to materialize, official annual inflation in Nigeria would need to average 17.6 percent for the September through December period.  What did the latest inflation report from the Central bank of Nigeria show?  According to the CBN, annual inflation was 17.9 percent in September. The IMF’s blind acceptance of the CBN’s data is a big mistake.