3 Questions for Larry Summers About the Fed

1) What kind of unconventional polices should it use? 2) What kind of target should it have? 3) What kind of bubble cop should it be?
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What do I actually think about monetary policy? (Reuters)

You don't usually have to ask Larry Summers what he thinks. He'll usually tell you. And tell you. And then tell you what you're getting wrong. But when it comes to monetary policy, Summers has been noticeably tight-lipped. That's a problem, because he's apparently the favorite for Fed Chair.

Now, it's not as if Summers is a monetary blank slate. Anonymous Summers supporters point out that "if you use Google Scholar and type in 'Lawrence Summers' and 'monetary policy' you get more than 7,000 hits." That's actually not quite right. You get 7,000 hits if you search for "Larry Summers," but you get 18,000 hits if you search for "Lawrence Summers." But even for an academic as prolific as Summers, most of those 7,000 (or 18,000) hits aren't by him, and the ones that are mostly don't deal with monetary policy directly. Sure, he did work on how much independent central banks matter (answer: yes for price stability, and no for real performance), but the bulk of his research has focused on fiscal policy and financial markets.

In other words, there's not too much to go on here. But not nothing. We do know what kind of economic model Summers uses. And he did tell us more about what he thinks about monetary policy back in, um, 1991. So we know that Summers would be more worried about unemployment than inflation today -- but how much more worried? More worried than the Fed already is or less so? Here are three questions for Summers that would fill in some of the blanks about what we know he thinks about the Fed and what we need to know.

1. What should the Fed do when interest rates hit zero? Monetary policy is usually pretty simple. The Fed raises rates when the economy is running too hot, and lowers them when the economy is running too cold. But today, even zero interest rates aren't enough to turn around our still-cool economy. And the Fed can't cut rates below zero, at least not for long, because people would just trade their bank deposits that were losing money for cash that wasn't. So the Fed has to instead push up inflation expectations to cut inflation-adjusted rates -- which means getting creative. The Bernanke Fed has done so by buying long-term bonds and promising to keep short-term rates low for long -- what we call quantitative easing (QE) and forward guidance. (Catchy, right?).

We don't really know what Summers thinks of these unconventional policies. Now, I suspect he prefers guidance to QE, because guidance makes fiscal stimulus, which he very much wants, even more of a slam dunk by telling us exactly how much stimulus the Fed will allow. But the Republican House means that new stimulus isn't coming anytime soon. So would Summers buy bonds out of necessity? He's been skeptical of QE, but perhaps still willing to try it. But how willing? Now, this might sound academic, but it couldn't be less so. Zero interest rates are going to be a reality for at least a few more years -- and might be again when the next recession hits.

Presented by

Matthew O'Brien

Matthew O'Brien is a former senior associate editor at The Atlantic.

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