Federal Reserve Groupthink?

Federal Reserve Groupthink?

When I was in graduate school in the 1960s the sainted Milton Friedman once said that a poll was conducted asking “What is the Federal Reserve?” One-third answered an Indian reservation. One-third answered a bourbon and one-third didn’t know. Those days are gone although the Fed probably pines for its return. Today Trump has thrust the Fed into the spotlight with his almost daily bellicose badgering of Fed chairman Jerome Powell. But even Trump knows that Powell only has one vote on the Fed’s Open Market Committee where the other 6 governors, five reserve bank presidents and the president of the New York Fed sit. Trump actually mused on firing the members of the Committee in addition to Powell. What is interesting is that he has not publicly berated the two other members of the board that he appointed, Christopher Waller and Michelle Bowman.

However, some Trump apologists have criticized Waller and Bowman. Larry Kudlow has accused the Open Market Committee of “groupthink” because the recent votes in the committee have been unanimous. Kudlow asks “Where is some diversity of thought and why aren’t these board members questioning Powell’s slippery and uninformed anecdotes of his new tariff war on inflation?” Kudlow show know better. The unanimous votes are not unique to this Fed. In recent memory I can only think of two others and they were single votes by two different reserve bank presidents. In reality, Open Market Committees are often characterized by diversity of opinions rather than groupthink and even though the announced vote may be unanimous, it is only to show a unified face to the world. Can you imagine the reaction of the press and markets if the votes were 7-5 or heavens forbid 5-7? The Committee would be characterized as being in disarray with Powell having lost control. Markets would be shaken. The Fed knows this and presents a united front even though there could be dissention. Note that despite unanimous votes to keep the fed funds rate unchanged that Governor Waller has hinted that the committee might vote to lower the rate when it meets in July. Waller would not have made that statement without the blessing of Powell. So look for a 25 basis point lowering unless there is an uptick in inflation. Also look for that vote to also be unanimous.

The Fed is a different place from that which existed when Friedman made his joke. Although the board was still comprised of political appointments, most of whom know little about monetary economics, such was not the case in the Federal Reserve district banks. St. Louis was known as a bastion of monetarism. Its research department was made up PhDs, many from Chicago, who were disciples of Friedman. It produced a stream of academic papers with a monetarist bent and whose president espoused it as well. The Minneapolis Fed was one heavily influenced by the rational expectations theory of Robert Lucas. The Cleveland Fed had its own theoretical bent as did Richmond and Atlanta. My friend from the University of Georgia, Bob McTeer became president of the Dallas Fed and instituted strong regional studies. The Boston Fed took my research developed at the Comptroller of the Currency on lending discrimination and developed the strongest group of economists in that area. So many of the Fed banks had their own view of monetary theory and its impact on the economy. Not surprisingly, there were many more dissenting votes on the Open Market Committee with most of the dissentions coming from the reserve bank presidents. No groupthink then. But of course, with the Fed not being prominently in the public’s eye, there could be dissention without creating seismic turbulences in financial markets. 

However, although I discount groupthink with today’s Fed, there is less intellectual diversity among the reserve banks. Clearly Atlanta (whose president is a co-author of mine), Minneapolis and San Francisco are headed by progressives who do more social outreach than other banks. There are no intellectual outposts of monetarism or rational expectations in today’s Fed system. Only the New York Fed seems to be producing academic quality research. Outside of Washington most reserve bank research departments now concentrate on regional economic issues.

I wish that the Fed would return to where once was populated by different types of thinkers throughout the system. It is understandable that even independent thinkers can get captured by working at the Fed Board in Washington. One example was a member of my dissertation committee at Ohio State who was a student of Milton Friedman. When that member left academics and went to the Fed in Washington, he was slowly transformed from a monetarist to an interest rate targeting advocate being completely transformed into a Fed-type. At least he still loved basketball and jazz. 

The legions of economists at the Fed in Washington are the ones who predominately have the same mindset. They are the ones who build the econometric models that generate the results that the Committee uses (along with those if each reserve bank’s research department) in its deliberations. What is now missing is more diversity of economic thought among the reserve banks where the concentration on regional issues has led the reserve bank presidents less able to see monetary issues from a wider perspective. Then there should be no surprise that the Committee meetings result in (mostly) unanimous votes.