Regional President Speech

INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS Research in Macroeconomics after the Crisis JamesBullard PresidentandCEO FederalReserveBankofSt. Louis 19thSymposiumofthe SocietyforNonlinearDynamicsandEconometrics WashingtonD.C. 17March2011 AnyopinionsexpressedherearemineanddonotnecessarilyreflectthoseofotherFederalOpenMarketCommitteeeparticipants. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS STRUCTURAL MODELING Structuralmodelingisanindispensabletoolfor macroeconomists. Havingatoolisnecessarybutnotsufficientforgoodpolicy design. Pretendingtonothaveastructuralmodelinmindisa falsehood—allapproachestomacroeconomicshaveatheory behindthem,implicitlyorexplicitly. Explicittheorieshavethevirtueoflayingtheassumptionsbare forexaminationandcriticism. But... ...themodelsweneedarebigandcomplicated,and ...weneedtheminordertopredicttheimplicationsofunusual policyinterventions. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS THIS TALK Weallknowwhatneedstobedone: Organizeamoreintensiveresearcheffortinmacroeconomics. Whatwehavetoday: Backrooms(academia)andfrontrooms(policymakers)of macroeconomics. Thebackroomresearchhasbeenbrilliant... ... buthasoftenbeenresistedinthefrontroom. Asaresult,wearenowherenearwhereweneedtobeintermsof havingauseful,comprehensivemacroeconomicmodelthatwe canusetogettheeconomytoperformatitspeaklevel. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS BACK ROOMS AND FRONT ROOMS Sargent’samusingdescriptionofacademia—backrooms–versus policymaking—frontrooms. Mycaricatureofthebackroomversusthefrontroom: Backroom:Statesandparametersareknownbyall,andpolicy choiceismenacinglycomplicated. Frontroom:Statesandparametersareknownbynone,butpolicy choiceitselfisdisarminglysimple. Backroom:Stationarityassumptionsarecommonplace,butdata areoftenuntrusted. Frontroom:Stationarityconsideredunlikely,butthirstfordatais unquenchable. Implication: Thefocusinthepolicyworldisondeterminingthe stateofthesystembylookingatlotsofdata. Implication: Thefocusintheacademicworldisondetermining optimalpolicytakingstatesandparametersasgiven. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS A COMMENT ON FORECASTING Policyworldconclusionisthatbetterforecastingwouldsolve keyproblems. Idoubtthis. Really,wetracktheeconomy. Wetrytounderstandthequartersimmediatelypast,thecurrent quarter,andthecomingquarter. Beyondthat,manyforecastsareanearrandomwalk,withonly slowreversiontomean. Itispossiblethattheforecastablecomponentofeconomic activitymayneverbemuchgreaterthanitistoday. Problem: Acredibleforecastisitselfinfluencingtheactionsof forward-lookingactorsintheeconomy. Bottomline: Betterforecastingiswelcomebutisnottheultimate objective. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS BETTER POLICY IS THE PRIMARY GOAL Betterpolicyisthemainobjective. Improvedpolicycoulddeliverbetteroutcomes—possibly dramaticallybetter—eveninaworldinwhichtheforecastable componentofrealactivityissmall. Theambientnoiseinaneconomicsystemmaybelarge... ... andyetpolicyinterventionsmayexistthatareassociatedwith largewelfaregains. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS ACTUAL POLICY IS SLOW TO ADAPT Actualpolicyislikebestpracticemedicine. Actualpolicyisslowtoadapttosuggestionsfromtheresearch frontier. Thetendencyistostickwithpolicyadjustmentswhichseemto haveworkedwellinthepast. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS THE BACK ROOM RESEARCH Theacademicresearchinmacroeconomicsoverthepast30years hasbeenbrilliant. Theadvancesinthelevelofunderstandingoftheintricaciesof theeconomyhavebeenastonishing. Themainlesson: Theglobaleconomyisnosimplesystemgovernedbyafew equations. Thefactthattheeconomyispopulatedbypurposeful, forward-lookingactorshashugeramificationsforpolicy. Optimalpoliciesmaynotlooklikethepoliciescurrentlyinplace. Toputasatisfactory,comprehensivemacroeconomicmodel togetherisaHerculeantask. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS THE STICKING POINT Thepolicycommunity—thefrontroom—continuallyresistedthe developmentsinmacroeconomicsfordecades. Stickypolicy? Instead,therewasgeneralcondemnationfromthiscommunity ofthenewapproachesasunrealisticandimpractical. Therewasmoretruthinthisearlyon,andmuchlesstruthinit today. ThecurrentcrisiscannotbeblamedonLucasandPrescott havingtoomuchinfluenceinthepolicyworld! INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS IMPROVED MACROECONOMICS Weneedamoreintensivenationalresearcheffortin macroeconomics. Ourcurrenteffortisnotsophisticatedenoughtohandlethe challengesthatlieahead. Wearebeyondthepointwhereafewprofessorsorasmallgroup ofresearcherscanmakeamajoradvance. Weneedadeterminedefforttoputtogetherasatisfactory, comprehensivemodel. Weshouldnotallowourselvestobeofftheresearchfrontier. Daunting? Yes,butwebuildaircraftcarriersandspacestations. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS COMPREHENSIVE ENOUGH Keepverynegativeoutcomesasapossibilityinsidethemodel, sothatpolicychoicecanbeevaluatedwiththeverynegative possibilitiesinmind. Leadingexample:Financialpanic. Beabletounderstandtrade-offsofpolicychoiceonamore globallevel. Withsmallmodels,policymakershavetoguesswhattheeffects mightbeonaspectsoftheeconomyoutsidetheanalysis. Leadingexample:Lowinterestratesasapreludetoabubble. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS FINANCIAL INTERMEDIATION Weknowfromtheliteraturethatfrictionsintheintermediation processcanprofoundlyaffectthegeneralequilibrium. Whyassumethesefrictionsaway? WealsohavealonglineofliteraturefollowingDiamondand Dybvig(1983)concerningbankrunsandrelatedphenomena. Thisshouldbeintegratedintoourmacromodels,sothatwecan understandhowourpoliciesareaffectingtheprobabilityofa run. Also: globalversuslocalpolicyanalysis— Therunisadeparturefromtheneighborhoodofthetargeted equilibrium. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS MONEY AND LIQUIDITY Thereisalargetheoreticalliteraturethatattemptstobemore rigorousaboutthenatureofmoneydemand. Thisliteratureshouldmoveclosertothedatafromfinancial markets. EspeciallyinterestingareGorton’s(2008)ideasaboutreposas privately-issuedmoney. Wecannotmakeprogressonthisissuewithmoney-in-the-utility functionassumptions. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS INTERNATIONAL Globalizationisuponus. Ourunderstandingoftheinternationallinkagesbetween monetaryandfiscalpoliciesistenuousatbest. Still,acriticalchallengegoingforwardistounderstandthe impactofrapiddevelopmentinmuchoftheworldontheglobal equilibrium. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS HETEROGENEOUS HOUSEHOLDS Weknowthatpolicieshaveanunevenimpact. Thelastdecadehaswitnessedaburgeoningresearchagendaon heterogeneoushouseholds. Withthistechnologywecanbetteranalyzethegeneral equilibriumeffectsofpoliciesacrosshouseholds. Itishardwork,computationallyintensive. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS MULTIPLE EQUILIBRIA AS “BUBBLE-LIKE” PHENOMENA Twodecades,twobubbles. Itistimeforthepolicycommunitytoembracetheconceptof multipleequilibriafromthemacroeconomicresearchworld. Thatwouldgiveuspolicymakersatleastonewaytocoherently addresstheseissues. Thetypicalpolicyresponseintheliterature: Adoptapolicythat killsofftheundesirableequilibria. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS LEARNING AND RATIONALITY Muchofthecriticismofmacroeconomicsisassociatedwiththe ideathatthereis“toomuchrationality.” Buttherationalhouseholdsinthemodelscanreadilybe replacedwithlearninghouseholds,andtheanalysiscanproceed fromthere. Thisraisesnewissues,suchaslearnabilityofanequilibrium. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS GROWTH AND HUMAN CAPITAL Thepaceoflongrungrowthisthemostimportantaspectof economicperformance. Weshouldbeanalyzingstabilizationpoliciesinconjunctionwith growthpolicies. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS OTHER AREAS Thesearejustexamplesofthetypesoffeaturesasatisfactory modelwouldhave. Wewouldliketobeabletounderstandthetrade-offsbetween manypolicychoices. Aboveall,wewouldliketobeabletounderstandwherethereal dangersare: Bigticketwelfarelossesareassociatedwithleavingthe neighborhoodofatargetedequilibrium. Thishastobeapossibilityinsidethemodels. INTRODUCTION POLICYCHOICEVERSUSDATA THEBACKROOMRESEARCH IMPROVEDMACROECONOMICS CONCLUSIONS CONCLUSIONS Weneedamoreaggressiveandbetter-fundedresearcheffortin macroeconomics. Thecurrentlevelofeffortisunlikelytomeetthemany challengestheU.S.facesgoingforward. Thelevelofcomplexityisbeyondwhatindividualresearchers canhandle. Small,shortcutmodelsaregoingtobewildlywrongonmany dimensions. Thetaskisdaunting,butthenationwillspendagreatdealon otherlargeprojectsarguablyoflesserconsequence.

James Bullard (2011, March 16). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_20110317_james_bullard

@misc{wtfs_regional_speeche_20110317_james_bullard,
  author = {James Bullard},
  title = {Regional President Speech},
  year = {2011},
  month = {Mar},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_20110317_james_bullard},
  note = {Retrieved via When the Fed Speaks corpus}
}