Peter Ireland on the Fed's Pandemic Performance and the Path Forward for Monetary Policy

Episode Summary

Executive Summary: David Beckworth and Peter Ireland discuss the Fed’s post-pandemic monetary-policy challenge, arguing that the 2021 inflation surge reflected both bad luck and a strategy shift away from price stability. Ireland defends nominal GDP level targeting as a superior framework for balancing inflation and employment, handling supply shocks, and improving communication.

Main Topics: Fed policy after the pandemic (Priority: 5/5): The conversation centers on how the Federal Reserve moved from low inflation and zero lower bound constraints to high inflation and the need for rapid normalization without triggering recession. Balance sheet expansion and policy credibility (Priority: 4/5): They discuss the Fed’s enlarged balance sheet, reserve and reverse-repo liabilities, and the growing political and operational complications of paying interest on those liabilities. Macroeconomics, microfoundations, and graduate training (Priority: 4/5): Ireland explains how macro is taught today: growth theory, RBC models, then New Keynesian DSGE frameworks, with heterogeneous-agent and search models depending on faculty expertise. Business cycles versus long-run growth (Priority: 4/5): The speakers debate whether growth or stabilization is more important, concluding that the distinction is false because institutions and policy affect both long-run growth and short-run volatility. New Keynesian lessons for central banking (Priority: 5/5): Ireland argues that expectations matter and that the divine coincidence remains important, but he worries the Fed has drifted back toward explicit unemployment-inflation tradeoff thinking. Framework critique: AIT and the Fed’s strategy review (Priority: 5/5): Ireland says average inflation targeting was reasonable in principle but was implemented in a way that downplayed price stability and encouraged a tradeoff mindset. Nominal GDP level targeting as the path forward (Priority: 5/5): Ireland endorses nominal GDP level targeting as a rule-like framework that integrates inflation and real activity, handles supply shocks better, and provides a clearer communication anchor.

Key Arguments: Macroeconomics should not be split too rigidly into micro and macro; good economics is good economics, and many important problems require both levels of analysis. Business cycles matter because recessions impose lasting human costs, especially on young workers and cohorts hit by repeated downturns. Mainstream macro training today is largely DSGE-based, starting with growth/RBC and extending to New Keynesian models; heterogeneous-agent and search models are important but less universally taught. Expectations are central to monetary policy: a rate hike matters partly because it changes expected future policy, not just current rates. The Fed’s recent strategy risks reviving old tradeoff thinking between inflation and employment, which Ireland sees as a mistake. Average inflation targeting was not necessarily wrong in theory, but the Fed’s communication and employment reinterpretation made it look like a retreat from price stability. Nominal GDP level targeting would have signaled that the economy remained far below trend in 2020-21 and that policy should stay accommodative; later it would have signaled earlier normalization once nominal spending overshot trend. Nominal GDP is attractive because it captures both inflation and real growth, provides a quantity-theoretic cross-check, and is robust to supply shocks. A multi-period nominal GDP level target can improve communication by letting policymakers explain current policy relative to a visible target path rather than focusing on noisy month-to-month inflation. The decentralized Fed system can help spread this framework through speeches and research even before the official strategy changes.

Data Points: Fed balance sheet size: Close to $9 trillion - Used to illustrate how large the Fed’s asset holdings became after pandemic-era interventions. Fed balance sheet relative to GDP: About 18% to 35% - Shows the balance sheet’s expansion as a share of GDP. Bank reserves/deposits: About $3.6 trillion - Fed liability side item on which the Fed pays interest. Overnight reverse repo facility: About $1.8 trillion - Another interest-bearing Fed liability held by money funds and similar counterparties. 2017 podcast timing: About five years earlier - Beckworth notes Ireland last appeared on the show in 2017. Pandemic shutdown timing: Spring 2020 - Ireland says the economy fell into an enormous hole when the shutdowns began. AI/AT review timing: 2019 - Fed framework review began before the pandemic and was a central reference point in the discussion. Inflation target: 2% - Repeated benchmark in the Fed’s official strategy and in the discussion of average inflation targeting. Nominal GDP gap example: About 12% below target path - Ireland cites a graph showing nominal GDP far below a 2019-based level path during the pandemic recovery. Potential liftoff increment: 25 or 50 basis points - Used to discuss the Fed’s signaling and the market impact of different rate moves.

Pivotal Quotes: "B for be careful what you wish for." — Peter Ireland: Ireland’s reaction to the reversal from the pre-pandemic low-inflation problem to the post-pandemic high-inflation problem. "The lesson to be learned then would be to think about ways then to have delivered additional monetary accommodation." — Peter Ireland: His explanation of what nominal GDP level targeting would have implied during the pre-COVID low-demand period. "I think you can show the pictures, and that works better than anything else." — Peter Ireland: On the communication power of plotting actual nominal GDP against a target path to explain policy decisions.

Implications: The discussion suggests central banks should move toward explicit level targets—especially nominal GDP level targeting—to reduce policy mistakes, improve communication, and avoid oscillating between inflation panic and unemployment concerns.