Bernankeology

Why so much is read into the words of the Fed chairman.

Following Fed chairman Ben Bernanke's speech yesterday, the usual bout of trying to understand quite how much we can read in to his words has begun. Yet unlike the normally perjorative "Kremlinology" – attempting to infer things from the most minuscule turns of phrase – this Bernankeology is understandable and quite useful.

Central bankers have a strange job. They don't actually have many tools at their disposal; largely just the tripartite decision to raise, lower, or maintain interest rates. Yet many of the outcomes they create come, not from actually using this power, but from creating expectations as to their future use.

Suppose Bernanke knows he is likely to raise interest rates in the first quarter of 2013. Even though his actual power is relatively limited, he can create a wide spectrum of outcomes depending on how he announces this. The market reaction will be extremely different if Bernanke says now that he will raise rates in a years time, compared to if he maintains right up until the day that a rate rise would be inappropriate.

But this power to persuade brings with it its own problems. Just like a legislature, a central bank is fundamentally unable to constrain itself; it can make promises, but everyone knows that it is free to break them at any point.

All of this means that every speech Bernanke gives is likely to be very carefully aimed at creating just the right set of expectations. On the one hand, he can't ever gain a reputation for untrustworthiness, so they have to be scrupulously honest; on the other, actually saying what he believes may create the wrong impression.

Last week, Ryan Avent provided a detailed breakdown of exactly what the benefits of Bernankeology can be, focusing on the Fed's "forward guidance" where it hinted that it would keep interest rates low until at least 2013. He writes:

On the one hand, a pure focus on the language of the Fed's statement indicates that rates are likely to remain low through that period based on the state of the economy... On the other hand, the Fed may be hinting that it will be willing to keep rates low through late 2014 even if the trajectory of the economy warrants a rate increase.

In other words, the Fed might be attempting to commit itself to a deviation from its normal policy rules of the sort that might generate more rapid growth and inflation.

The problem the Fed has is that it needs to generate growth, but that growth is likely to come with relatively high inflation, of the sort which Bernanke has historically fought against. In order to help the economy, he needs to convince "the markets" that interest rates will be kept low even if inflation spirals out of control. The problem is that this, from an inflationary hawk like Bernanke, is unbelievable.

Avent points to a paper (pdf) which breaks down the distinction into two categories:

Delphic, corresponding to the first category above, and Odyssean, corresponding to the second, in which the central bank attempts to commit itself to deviations from typical rules.

Matt Yglesias offers a less refined version of the same strategy, breaking Bernanke's possible responses into an Eeyore response and a Tigger one. Either the Fed chief can "avoid optimistic forecasts as a way of signaling that rates will stay low for a long time," or he "can say we're climbing out of a steep hole so rates will stay low for the next 18 months come what may".

The test for Bernankeologists is to work out whether yesterday's gloomy speech is Odyssean-Eeyore, using gloominess as a mast to bind himself to, or simply Delphic, with the chairman making his most honest predictions and still being pessimistic.

Occupy LA activists march against the Fed in November. Credit: Getty

Alex Hern is a technology reporter for the Guardian. He was formerly staff writer at the New Statesman. You should follow Alex on Twitter.

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UK election results: your guide to what's happened so far

Everything you need to know about the local and regional elections.

Scotland

  • To little surprise, the SNP will be staying in government at Holyrood as the largest party by an overwhelming margin.
  • Nicola Sturgeon’s party looks set to narrowly lose its majority, yet given that the electoral system intentionally militates against majority governments, that shouldn’t be an enormous shock.
  • It was a dreadful night for Scottish Labour. Despite winning Edinburgh Southern from the SNP, the party has almost certainly slipped into third place behind the Scottish Conservatives. Kezia Dugdale, the party’s sixth leader in 8 years, vowed to carry on as party leader.
  • The Conservatives, wiped out north of the border in 1997 and barely ever a force in Holyrood since 1999, are now the assembly’s main opposition. Ruth Davidson, the party’s leader, won a constituency seat in Edinburgh from the SNP. The party also took Eastwood, long a Labour stronghold – perhaps hinting at broader problems for the Labour party nationwide with Jewish voters.
  • The Liberal Democrats are not dead yet. Willie Rennie, whose campaign highlights included being interviewed in front of a pair of romping pigs and launching his manifesto in a soft play area, took the seat of North East Fife from the SNP, while his party also held seats in the Scottish islands comfortably.

 

Wales

  • Labour remains the largest party, albeit probably in a minority, and should govern alone fairly comfortably.
  • Leighton Andrews, a long-serving member of the Welsh government, was unexpectedly defeated by Plaid Cymru leader Leanne Wood in his Rhondda constituency.
  • The Conservatives failed to make significant gains, with party sources blaming the row over Port Talbot’s steel.
  • UKIP won its first seats in the assembly, picking up at least 4 assembly seats through the list, including former Kent MP Mark Reckless – with disgraced former Conservative MP Neil Hamilton also expected to win a seat later on.
  • Labour retained the Ogmore seat at Westminster in a by-election, with UKIP in seco nd place.

 

England

  • Labour have become the first opposition party to lose seats in midterm elections since 1985 – when Neil Kinnock’s Labour Party still lost fewer seats than the Conservative government.
  • That said, the party’s results were probably not quite as bad as some feared – the party retained control of Crawley and Southampton, though lost Dudley to no overall control.
  • The Conservatives gained some council seats, taking control of Peterborough council, but losing Worcester to no overall control.
  • UKIP became the joint-largest party on Thurrock council, drawing level with the Conservatives – and missed out on taking a further seat from the Conservatives by just 1 vote.
  • Labour won the Sheffield Brightside by-election, with UKIP in second place.
  • Joe Anderson won re-election as Mayor of Liverpool with more than 50 per cent of the vote.

 

London

  • The count for London Mayor and the Greater London Assembly began at 8am, with the result expected to be announced in the late afternoon.
  • Campaigners on all sides predicted record low turnout. 

Henry Zeffman writes about politics and is the winner of the Anthony Howard Award 2015.