Jai Kedia
We have disagreed with several of the administration’s proposals on economics in general and monetary policy in particular. But credit where it’s due: National Economic Adviser Kevin Hassett’s recent statements about the Fed are correct. In an interview with Politico, Hassett said:
“An independent Fed is very transparent…it tells you, this is what we think the economy is going to look like. They tell you why. They show you their models. They encourage debate about, like, what model is working best right now. They look at their errors and talk about why they made them, and do that in front of the public. So the wisdom of crowds can also affect the wisdom of the Fed. And so I think that the Fed is still kind of this thing that’s like the Wizard of Oz behind the curtain. And that, you know, is something I think in today’s age should change.”
All of that is correct and mirrors recommendations we have made here at Cato’s Center for Monetary and Financial Alternatives (CMFA). In fact, our own George Selgin has used the Wizard of Oz analogy in the past to describe the mystique around the Fed! Much like the fictional all-powerful Wizard, a peek behind the curtain shows the mundane nature of it all. The Fed’s importance is drastically overstated; it cannot even control interest rates, let alone the entire economy, and the tools at its disposal to exert economic influence are imperfect and indirect. No one should pretend otherwise.
The Fed’s increasingly discretionary approach turns monetary policy into an even more obscure black box where nobody knows exactly how the Fed sets its rate targets. The Fed works better when it operates in a transparent and predictable manner, as Hassett says. In fact, the best way for the Fed to set the interest rate target is to abandon discretion altogether in favor of a monetary policy rule. Under such a system, the Fed would publish an arithmetic formula that takes macroeconomic indicators such as unemployment, inflation, or financial performance and converts them into a corresponding value for the target federal funds rate. Most popular rules (such as the Taylor rule) offer similar prescriptions, and virtually all of them are better than Fed discretion, so the exact rule specification is not as important as choosing a rule and sticking to it. To Hassett’s point, the Fed should welcome debate over this rule and update it at moderate intervals, such as at its five-year framework reviews. This framework would have the added benefit of shielding the Fed’s independence from political pressure.
Inasmuch as when Hassett invokes the “wisdom of the crowd,” he implies that the Fed should be held accountable by Congress—the political body most representative of the US populace—and we agree too. In fact, Hassett echoes the 2015 FORM Act, legislation we have highlighted several times in the past as an effective way to implement rules-based monetary policy. Under the FORM Act, the Fed would be required to adopt and adhere to a rule for setting its interest rate target. The Fed could deviate from the rule only in exigent circumstances and provided it justifies any departures from it to Congress publicly.
Hassett’s take on the Fed is encouraging, and he isn’t the only one. In a recent Wall Street Journal op-ed, Treasury Secretary Scott Bessent also shared similar views, saying:
“Overuse of nonstandard policies, mission creep and institutional bloat threaten the central bank’s independence. The Fed must change course. Its standard tool kit has become too complex to manage, with uncertain theoretical underpinnings. Simple and measurable tools, aimed at a narrow mandate, are the clearest way to deliver better outcomes and safeguard central-bank independence over time.”
Barring Bessent’s views on the relationship between the Fed and wealth inequality, we mostly agree with his article, too. Unfortunately, his and Hassett’s reasonable views on monetary policy follow months of ill-conceived attacks by the administration on the Fed and its independence. Hopefully, these recent statements indicate a shift in focus from attacking the Fed to a desire for meaningful common-sense reform. We are amid an entire series that suggests such reforms on all aspects of the Federal Reserve; the administration should use its platform to advocate such policies that will make the Fed work better for all Americans.