Over at WaPo. In preparing for something, I was reading the text of the Choice Act–that’s the financial deregulation bill the House recently passed (there’s a link in the piece). I knew the Act included some pretty invasive Fed oversight but when I actually read the legislation (Title X), the old jaw dropped. It writes down the ’93 version of the “Taylor rule” (read the piece for details), and makes the Fed have to jump through hoops if they use any discretion in its application.

My piece focuses on why such rigid rules-based policy making is a terrible idea, as it would undermine both the Fed’s analytic flexibility and their political independence. The latter is particularly toxic given the relative functionality of the Fed versus the Congress.

But there was one point I left out of the WaPo piece, which was already way too long.

What are House conservatives really up to here? Surely, they’ve not thought through the implications of insisting on the use of 0.5 as the coefficient on the slack variable in the rule. Much as you can interpret any hard-right legislation as motivated by shrinking gov’t to provide tax cuts for rich people, so can you interpret anything in the regulatory space as allowing firms to do whatever they want to maximize profits without concerns for negative externalities, like blowing up the economy.

That dynamic is clearly represented in the Choice Act in general, which is mostly about unwinding Dodd-Frank (as I note, it requires 60 votes in the Senate, so it may well be blocked, but the financial lobby is aggressive and deep-pocketed).

But the target of this Fed mishegas may be a bit more nuanced than that: conservatives have long been gunning to reduce the Fed’s dual mandate–full employment at stable prices–to a sole mandate of stable prices. After all, full employment gives workers more bargaining power, and higher inflation can erodes asset values. Note that the “reference rule” in Title X (see my piece) returns an Fed funds rate of over 3% right now, versus the 1% to which the Fed just raised.

Congressional conservatives want more Fed oversight so they can fight against “easy money,” any inflation at all, and the haunting specter of full employment.

As expected, as their meeting concluded yesterday, Federal Reserve Chair Janet Yellen and company decided to raise the benchmark interest rate they control by one-quarter of a percentage point. The question is: why?

She was, of course, asked about this in lots of different ways in her press conference. [Pause here for a moment and consider the substantive difference between a Yellen press conference and a Spicer press conference. Kinda makes you shudder.] Specifically, journalists reasonably wanted to know what was up with the rate hikes given how low inflation has been. Sure, we’re closing in on full employment, but the Fed’s preferred inflation gauge, the core PCE, is below their 2 percent inflation target and slowing. It’s decelerated from 1.8 percent in the first two months of this year to 1.6 percent in the last two months. Expectations remain low–under 2 percent–as well. That’s the opposite of what you’d expect if tight labor markets were juicing price growth, and a legitimate reason not to tap the growth brakes with another rate bump.

Chair Yellen, as you’d expect, made a coherent case about not getting “behind the curve” and thus tapping the brakes now to avoid slamming them later. She talked about one-time factors dampening price growth, predicting that as soon as these faded, inflation would firm up and begin to reflect the tight labor market.

Coherent, but not very convincing. Economist Joe Gagnon, though he considers the rate hike to be “reasonable” based on other indicators he cites, bemoaned the ad-hockery of the Fed’s inflation analysis:

Is the FOMC revisiting the bad old days of the 1970s, when it tried to explain away inflation that was too high by pointing to a seemingly endless stream of one-off factors? The [core PCE] already excludes volatile food and energy prices. We certainly do not want to get on the slippery slope of excluding ever more categories with price movements the FOMC does not like.

A bit of ad-hockery and one-offery might be okay but for the following picture. The black line is the Q4/Q4 change in the core PCE, and the dotted lines are the Fed’s projections of future inflation with each projection labeled by its date of publication (I left a few out for clarity, but they followed the same pattern). It’s a pretty clear picture of hope over experience. The Fed keeps projecting that inflation will climb to their 2 percent target, while actual inflation keeps ignoring their predictions.

Sources: BEA, Fed

This suggests a problem with the model. One theory is that big, structural changes in trade and technology have permanently lowered the rate of price growth. But economist David Mericle from Goldman Sachs (no link) looks at trade, the internet, and productivity growth and finds they fail to explain much of the “hope-over-experience” pattern above. Import penetration from countries that export relatively cheap goods to us remains high compared to where it was 20 years ago, but it has actually come down in the past few years. Yes, we’re buying a ton more stuff online, but online prices don’t diverge that much from other prices, at least as measured by our deflators (Mericle cites “outlet bias,” meaning the indexes don’t always record when consumers switch to cheaper online sellers). Finally, it’s awfully hard to tell an accelerating productivity story when productivity growth has slowed over the very period wherein the Fed’s been consistently missing their target to the downside.

So, what’s going on with inflation? If the Fed can’t figure it out, I doubt I’ll be able to do so. Gagnon points out that the recent decline in the dollar should nudge inflation up a bit. Mericle’s points are all well taken, but perhaps when you add structural changes together, their whole is bigger than the sum of their parts.

Another thing to consider is that while we’re surely closing in on full employment, there are signs that we’re not there yet. Pockets of weakness persist for some less advantaged groups and in some parts of the country, a point Chair Yellen herself recently made, and even nationally, there’s not all that much wage pressure. Worker bargaining power looks lower than I might have expected at 4.3 percent unemployment. Empirically, the links in the chain between tight labor markets, wage pressure, and price pressure appear much weaker than they were decades ago, a point Ben Spielberg underscores in the recent podcast we did on the Federal Reserve (which some have found surprisingly entertaining!). It’s very important not to fight old wars.

For the record, Janet Yellen has long been a stalwart slack fighter, at least before she and most of the others decided: “enough already with the data-driven thing—it’s time to get rates back up to normal levels.” The problem is that figure above suggests there may well be a new normal, one to which the old benchmarks don’t apply. On the basis of that possibility, I’d urge the members of the committee to put down the old maps and look out the window. It’s a different world out there.