Tuesday , October 22 2019
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Steady as she goes

Summary:
After all of my recent TDS posts, I better say something about the economy before I lose all of my intelligent readers. We are now in the longest economic expansion in US history. That’s good, but what really matters is achieving America’s first ever soft landing  (defined as 3 years of low and stable unemployment and stable prices.) Fortunately, I’m likely to live long enough to see if that happens. We’ll know by late 2021. (In contrast, I doubt I’ll live long enough to find out what happens to Hong Kong after 2047.) So if you are bored right now, be assured that something very interesting will definitely happen in the next 2 years. Either the first ever American soft landing, or an outcome that is even more interesting. I’m cautiously optimistic, although of course the

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After all of my recent TDS posts, I better say something about the economy before I lose all of my intelligent readers.

We are now in the longest economic expansion in US history. That’s good, but what really matters is achieving America’s first ever soft landing  (defined as 3 years of low and stable unemployment and stable prices.)

Fortunately, I’m likely to live long enough to see if that happens. We’ll know by late 2021. (In contrast, I doubt I’ll live long enough to find out what happens to Hong Kong after 2047.) So if you are bored right now, be assured that something very interesting will definitely happen in the next 2 years. Either the first ever American soft landing, or an outcome that is even more interesting.

I’m cautiously optimistic, although of course the fact that we’ve never had a soft landing is an indication that there are risks ahead. The recent data seems consistent with my view early in the year, which is that there is an elevated risk of recession, with a likelihood that is still well below 50%. We see continued strong job creation, but other signs of weakness such as slowing manufacturing and sagging interest rate futures. I’m also a bit worried about the recent dip in wage growth, although that may bounce back next month.

There are two arguments that monetary policy is too tight:

1. Inflation is running a bit below 2%, and is likely to continue doing so.
2. Forward indicators show economic softness going forward.

When you see commentators in the financial press who oppose monetary stimulus, they tend to completely ignore the inflation target and focus on the cyclical indicators. And right now the economy is quite strong, with the lowest peacetime unemployment rate since 1929. From a Phillips curve perspective, it seems crazy to call for monetary stimulus when we have 3.5% unemployment.

The fact that the Fed is cutting rates despite the low unemployment rate is actually a good sign; it’s an indication that the “market” part of market monetarism is increasingly taken seriously within the Fed. If only they had done so in 2008.

While I lean in a “dovish” direction at the moment, I also believe that many people are too dovish. Policy is not far off course, despite yield curve inversion. This is pretty close to what monetary stability looks like.

I am told that a new NGDP futures market should be up and running fairly soon. Although I’m not a forecaster, just for fun I’ll predict that the market will show a 3.5% NGDP growth forecast for 2020:Q1 to 2021:Q1. My forecast applies to the market one week after trading begins, and the price has settled down. Fortunately, 3.5% NGDP growth is enough to avoid recession and keep unemployment in the mid-threes.  But inflation will continue to run slightly too low.

If I’m wrong about NGDP futures, then I’ll revise my current view that policy is now close to optimal, albeit slightly too contractionary.


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Scott Sumner
Scott B. Sumner is Research Fellow at the Independent Institute, the Director of the Program on Monetary Policy at the Mercatus Center at George Mason University and an economist who teaches at Bentley University in Waltham, Massachusetts. His economics blog, The Money Illusion, popularized the idea of nominal GDP targeting, which says that the Fed should target nominal GDP—i.e., real GDP growth plus the rate of inflation—to better "induce the correct level of business investment".

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