Say What, Janet?

The Federal Reserve (Fed) is beginning to look silly.  Not too many weeks ago, its spokespeople, including Fed Chair Janet Yellen, suggested that the economy was resilient enough to warrant another small interest rate hike.  The Fed has long planed to raise rates gradually as circumstances allow.  Markets began to anticipate such a move after the spring meeting of the Federal Reserve Open Market Committee (FOMC).  But more recently, Chair Yellen has suggested that increased global and domestic risks might stop the Fed from rate increases any time soon.  Such on-again, off-again pronouncements raise troubling questions about how the Fed analyzes data and reaches policy conclusions.

In making her most recent hints on rates, Chair Yellen referenced, for one, the turmoil that had beset global markets, especially between December 2015 and March of this year.  This can hardly justify a policy shift now.  Though the turmoil is certainly worth noting, it was evident a few weeks ago when the Fed made more aggressive comments about rate increases.  She and others at the Fed have also justified their more recent caution with references to uncertainties surrounding Britain’s upcoming vote on whether to leave the European Union, Brexit, as the media commonly refers to it.  To be sure, the British vote on June 23 is nearer now than it was when the Fed seemed more inclined to raise rates, but the threat of exit has prevailed throughout this time.  And since polls or betting odds in Britain suggest no sudden popular shift in favor of exit, there is little here either to justify a policy shift.

It is equally hard to explain the Fed’s new reluctance, as some have done, in terms of the poor recent employment report.  There is certainly no denying the disappointment implicit in the Labor Department’s June 3 report on matters in May.  It announced that the unemployment rate fell from 5.0 percent of the workforce to 4.7 percent, which would normally indicate strength, except that the drop had little to do with new hiring.  Instead it occurred because some 458,000 people ceased looking for work in May.  Confirming this picture, and more disappointing still, the statistics also showed that payrolls in May increased a mere 38,000.  With downward revisions in the job growth figures for April and March, the recent statistics do indeed look weak next to the average of almost 200,000 new jobs created a month during the year’s first quarter.

But if such news naturally gives pause, it is hardly enough to justify a policy change.  The Fed itself has often warned against any economic judgment based on a few months’ data, especially from a single series.  It has pointed out on many occasions that data revisions after a preliminary report can change the picture entirely and that even after revisions, one or two month’s data can give misleading signals.  That has certainly happened in the past.  In March 2015, for example, payroll’s growth slowed abruptly after strong gains of 275,000 a month on average between late 2014 and early 2015.  But then, just as abruptly, the jobs growth figures rebounded again later in 2015.  A change in policy based on that brief period of weakness would have caused damage and confusion.  On the other side of the ledger is the early 2010 report of powerful payroll growth of some 310,000 a month.  Had the Fed reacted to this momentary sign of strength, it would have had to shift again when the Labor Department then reported four successive months of shrinking payrolls.  It is because of such false signals and the danger of misjudged policy shifts that this latest weakness cannot or should not prompt a policy change either.

So the question stands, what is the Fed doing?  It has promised, quite rightly, that it will read the economy to assess the appropriateness of policy.  But that approach, “data sensitive” in Chair Yellen’s phrasing, is a different from sensitivity to a particular data point.  If the Fed indeed has adopted such sensitivities, then it has effectively given up coherent policy making altogether.  Alternatively, the Fed may be acting on insights that it prefers to hide from the public.  Since it espouses transparency, such an approach not only would introduce a counterproductive confusion into markets, but it would also undermine the Fed’s credibility.  Rather than do harm in one or the other of these ways, Chair Yellen and the rest of the Fed would do well to just shut up.