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December 2, 2007

Novak: Fed's Secret Plans to Change FOMC Statement Upset by Financial Market Turmoil

I don't know what to make of this report from Robert Novak that the Fed was secretly planning a new FOMC statement indicating a bias toward a rate cut, but was derailed by the fallout from the "international credit scares," but I'm skeptical. The report is attributed to "Capitol Hill sources," and the vagueness of the sources along with a general wariness about anything Novak reports makes it hard to evaluate. In addition, the report is very much at odds with what the first Fed official to comment since the financial crisis, William Poole, has said:

William Poole, president of the St. Louis Federal Reserve Bank, said the subprime mortgage rout doesn't threaten U.S. economic growth, and only a 'calamity' would justify an interest-rate cut now. Poole, who confers regularly with regional business contacts, said ... the ... best course is for officials to assess economic figures, including the August jobs report, when they next convene on Sept. 18...

Here's Novak:

A Rate Cut on Hold, by Robert D. Novak, Commentary, Washington Post: Before the recent global financial crisis began, the Federal Reserve Board under Chairman Ben S. Bernanke was ready to take a subtle step toward easier money in order to stave off U.S. recession fears. Ready for approval was a new Federal Open Market Committee (FOMC) statement ending the central bank's neutrality and putting it on a bias for an interest rate cut. But international credit scares changed all that.

The Fed and other central banks moved quickly and in unison last Friday to pump more cash into financial systems, successfully stabilizing markets made jittery by collapsing hedge funds around the world. It was central banking at its best... But Bernanke's broader plans for easier money have to be placed on hold because he cannot be seen as bailing out greedy hedge fund operators. ...

While the FOMC's decisions now are disclosed promptly, the central bankers do not disclose and try not to leak their plans. However, according to Capitol Hill sources, they had secretly decided to issue a statement soon changing the Fed's bias toward easing -- which no longer would be in neutral.

While such a change in itself can boost the economy, it normally is followed immediately by an actual drop in interest rates. In this case, however, sources indicated that the second step would not come for several months, to coincide, if possible, with good anti-inflation numbers. ...

But any kind of easing now -- either abandoning neutrality or a full-scale cut in interest rates -- could make it appear as though Bernanke was less interested in the broader economy than in protecting millionaire hedge fund operators and traders. ...

As Bernanke considers his course, the "R" word (recession) is in the air in Washington. That's why the Fed secretly decided to move away from neutrality toward easing, which is now on hold thanks to the global crisis.

Update: Tim Duy, who comments further on the Poole statement in his latest Fed Watch, says:

ABSOLUTE BS! … When I was in DC, Novak was called "Nofacts".

Update: Since the topic is columnists is Washington Post columnists trying to write about the Fed, let me add this. George Will is confused about the Fed's mandate. He says:

The Federal Reserve's proper mission is not to produce a particular rate of economic growth or unemployment... It is to preserve the currency as a store of value -- to contain inflation.

That would be news to the Fed. For example, Federal Reserve Governor Mishkin thinks there is dual mandate:

In the United States, as in virtually every other country, the central bank has a ... specific set of objectives that have been established by the government. This mandate was originally specified by the Federal Reserve Act of 1913 and was most recently clarified by an amendment to the Federal Reserve Act in 1977.

According to this legislation, the Federal Reserve's mandate is "to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates." Because long-term interest rates can remain low only in a stable macroeconomic environment, these goals are often referred to as the dual mandate; that is, the Federal Reserve seeks to promote the two coequal objectives of maximum employment and price stability.

But unlike George Will, you already knew that. Be wary when reading Will.

One more update: Barry Ritholtz has more in "Attention Robert Novak: The Fed isn't at Neutral."

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