Recently, former Fed Governor Fredric Mishkin, one of the Economists interviewed in ‘Inside Job’, came to give a talk at the University of Calgary. I had the opportunity to speak with him privately for fifteen minutes before his lecture and found him energetic and engaging. His talk comes out of two papers he has written since the start of the Great Recession.
Mishkin cites nine basic principles of monetary policy that he believes remain valid after the crisis:
1. Inflation is Always and Everywhere a Monetary Phenomenon
2. Price Stability Has Important Benefits.
3. There is No Long-Run Tradeoff Between Unemployment and Inflation.
4. Expectations Play a Crucial Role in the Macro Economy.
5. The Taylor Principle is Necessary for Price Stability.
6. The Time-Inconsistency Problem is Relevant to Monetary Policy.
7. Central Bank Independence Improves Macroeconomic Performance.
8. Credible Commitment to a Nominal Anchor Promotes Price and Output Stability.
9. Financial Frictions Play and Important Role in the Business Cycle.
“None of the lessons from the financial crisis in any way undermines or invalidates the nine basic principles of the science of monetary policy developed before the crisis.”
Where then did the Fed go wrong? He offers five lessons learned.
1. Developments in the financial sector have a far greater impact on economic activity than we earlier realized.
2. The macro economy is highly nonlinear.
3. The zero lower bound is more problematic than we realized.
4. The cost of cleaning up after financial crises is very high.
5. Price and output stability do not ensure financial stability.
Developments in the financial sector have a far greater impact on economic activity than we earlier realized.
“The global financial crisis of 2007-2009 therefore demonstrated that financial frictions should be front and center in macroeconomic analysis: they no longer could be ignored in the macro-econometric that models that central banks use for forecasting and policy analysis, as we saw was the case before the crisis. As a result, there is a resurgence of interest in the
interaction of finance and macroeconomics.”
Too bad the OTC market remains unregulated and the money center banks are even too bigger to fail than before the crisis. Mishkin did take a shot at Jamie Dimon for claiming the size of JP Morgan Chase put them at a competitive disadvantage.