Data does not mean what you think it does


Fed watcher: The Fed is going to lose “credibility”

I have claimed that the Fed and its apologists often leave the impression that the Fed has trouble “communicating” when the more fundamental issue is that the Fed is fallible, often indeed flat wrong, knows it does not know and sometimes even tells fibs.  On the other hand, their presumption that “we” are dumb and need to be spoken to as a parent speaks to a child has some merit.

Here is a guypresumably speaking for all of Cantor Fitzgerald, who does not seem to realize that “data” means developments in the world that can be detected through the senses (i.e. evidence) and believes that “data” is only what appears at ECO <GO> on his Bloomberg. The numbers he looks at are coming in ok and yet the Fed is not raising interest rates. How can this be?!

It is easiest to understand what data dependence means by considering its opposite, which is the unusual case. The Fed is not data dependent when the policy rate is stuck at the zero bound and the Fed is delivering as much stimulus as is plausible and yet wishes that more could be delivered. In such an instance, an improvement of the “data” (i.e. evidence generally) would not lead them to tighten policy. Rather, it would just reduce the gap between the stimulus they would desire and the stimulus they believe they can deliver. And if you assume, they can’t ease either, then their policy is not going to be sensitive to evidence surprises, at least over a certain horizon.

When the Fed says they are “data dependent” they mean only that they are no longer in that situation and that the ideal policy is in fact sensitive to incoming information, which they choose to call “data”, even though that may confuse the children.

Buddy from Cantor is also “worried” that the market may lose faith in the Fed’s rate guidance. Um, that would be an advance. Rates guidance is appropriate only when the Fed is stuck at the zero bound, as I have explained in earlier posts like this one.  Right now, the Fed is hobbled with the rates guidance they adopted when they judged that would be helpful. They would best be rid of it. But if they cannot formally get rid of it, then the market “losing faith” in it, would be a second best outcome, and certainly not something the Fed would resist.  You can tell they believe this because Yellen says things like, ignore that dumb rates guidance.

Getting the Fed right is hard.  To do that, you need to forecast the economy which is pretty much impossible. But I remain amazed at how most observers don’t even know what the question is. I do think that the behavioral economists will find this a fruitful period to study. How could people have become SO clueless about monetary policy. It is not like there is a Zika virus targeting Fed Watchers already out of the womb. It just seems that way.