Jon Hartley on the Shadow Open Market Committee and Macroeconomic Policy

Episode Summary

Executive Summary: David Beckworth and John Hartley discuss a Hoover conference on the Shadow Open Market Committee, tracing monetarism’s influence on modern central banking, the decline of money targets, the role of fiscal-monetary interactions, and Hartley’s research on government debt management. They also debate the Fed’s operating system, QE, and why long-run growth and institutions matter most.

Main Topics: Shadow Open Market Committee and monetarism (Priority: 5/5): Hartley explains the SOMC’s 50-year role as an outside critic of the Fed, founded by Karl Brunner and Allan Meltzer, and rooted in monetarist ideas that money growth helps explain inflation. The decline of monetary aggregates in policy and academia (Priority: 5/5): The conversation explores why money supply measures fell out of favor after the Volcker era: unstable money demand, a shift toward interest-rate targeting, and the rise of the Taylor Rule and inflation targeting. Fiscal theory of the price level and monetary-fiscal interaction (Priority: 5/5): Beckworth and Hartley discuss how fiscal policy, debt valuation, and expectations can influence inflation, especially in the early 2020s, while noting the difficulty of empirically identifying fiscal expectations. Debt management and Treasury issuance (Priority: 4/5): Hartley summarizes research on Treasury refunding announcements and argues that changes in maturity structure have measurable but modest effects on yields, with a possible case for more short-term bill issuance. Fed operating system, reserves, and the balance sheet (Priority: 4/5): The panel discussion turns to the floor system/ample reserves regime, its operational complexities, standing repo facility access, and the Federal Reserve’s expanding balance-sheet role in crises. Growth, innovation, and institutions (Priority: 4/5): Hartley argues that the most important macro question remains why countries are rich or poor, emphasizing innovation, institutions, and productivity rather than monetary policy alone.

Key Arguments: The SOMC was most influential in the 1970s-1980s, especially during the Volcker disinflation, when monetarism and money targets were central to policy debates. Money aggregates disappeared from mainstream macro not because they became irrelevant, but because well-functioning policy can make reduced-form money-inflation relationships hard to detect. The Taylor Rule and inflation targeting helped replace monetary aggregate targeting by giving central bankers a tractable framework centered on interest rates as the instrument and inflation as the goal. Fiscal theory can help explain the early-2020s inflation surge because large fiscal transfers were perceived as not being fully backed by future taxes, though the empirical evidence is mixed across countries and time. CBO deficit projections are a weak proxy for fiscal expectations because they are based on current law and may not reflect how households and bondholders expect policy to evolve. Treasury issuance decisions do move markets: Hartley’s high-frequency work finds that unexpected shifts in issuance can lower 10-year yields, but the effect is smaller than claims of large-scale 'shadow QE.' There is a plausible nonpolitical reason for more short-term Treasury issuance: bills are money-like assets, and issuing more of them can reduce Treasury’s financing cost. The Fed’s floor/ample-reserves system is more complex than it looks because policymakers must know where the reserve-demand curve is, how reserves are distributed, and how the curve shifts over time. QE and other balance-sheet policies are important in crises for liquidity and market functioning, but Hartley is skeptical that they alone explain long-run equity or growth differences across countries. Long-run prosperity is driven more by innovation, institutions, and productivity growth than by monetary policy, making growth macro at least as important as business-cycle macro.

Data Points: Conference date: December 2 - Upcoming 'Building a Better Fed Framework' conference in Washington, D.C. Conference duration: All-day event - Beckworth describes the Hoover monetary policy conference as unusually long and densely scheduled. Conference start/end time: 7:00 a.m. to 9:00-9:30 p.m. - The retrospective on the Shadow Open Market Committee ran nearly 14-15 hours. Shadow Open Market Committee anniversary: 50 years - The Hoover conference celebrated the SOMC’s 50th anniversary. SOMC meeting frequency: Twice a year - Hartley notes the committee meets semiannually to critique the FOMC. Inflation target in New Zealand: 1% then 2% - Hartley recounts the early inflation-targeting debate in New Zealand. Year of Taylor Rule: 1993 - Hartley cites the Taylor Rule as a framework that made models more tractable. Pandemic-era fiscal facility exposure estimate: $30-40 billion - Deborah Lucas estimated fiscal transfers from interest on reserves in an early period of its use. Unexpected yield move from Treasury announcement: About 4 basis points - Hartley’s paper finds that a surprise reduction in 10-year bond issuance lowered the 10-year yield. Expected term-spread sensitivity: 1.25% - A 1-year shift in weighted average maturity over the next year is associated with a 1.25% move in the term spread. Treasury bill issuance effect comparison: Near zero on 3-month T-bills - High-frequency estimates show big issuance surprises move 10-year yields more than short bills. Inflation level in early 2020s: Around 8% - Hartley references the inflation peak during the recent surge. Current inflation reference: About 2% - Beckworth says inflation has returned to target on a month-on-month basis. Fed reaction delay: About 6 months - Hartley argues the Fed raised rates too late in 2021. Deficit level: 6% - Hartley says governments should worry about running 6% deficits in good times.

Pivotal Quotes: "money is very scant. It’s all about interest rates." — John Hartley: Describing the decline of money in modern macroeconomics and central banking models. "keep your powder dry" — Patrick Kehoe (as summarized by Beckworth/Hartley): A fiscal-policy lesson from the public debt discussion: preserve fiscal capacity for future crises or war. "There’s a lot of great growth people on my podcast… once you start thinking about growth, you can’t think about anything else." — John Hartley: Hartley stressing that long-run growth and institutions are central macro questions.

Implications: The episode suggests central banks should keep broader diagnostic tools, not rely only on interest-rate models. It also argues that debt management, fiscal discipline, and long-run productivity growth will shape future macro stability more than any single policy rule.