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intelligence will affect prices and economic activity. If incoming data for August shows that this move was fleeting, it may be appropriate to raise the policy rate when the FOMC meets on September 15-16. Now, having described my outlook on the economy and monetary policy, I will share my thoughts on how I communicate these views to the public.
So, let me start with the real sector of the economy. Despite the uncertainty I mentioned, most of which is weighing on economic growth or business activity, real gross domestic product (GDP) growth continues at a solid pace. In the first half of this year, real GDP grew at an annual rate of 1.8%. Consumer spending growth was robust in the second quarter after a slow start to the year, while business investment remained strong throughout the period.
Total real domestic final private sector purchases—the spending measure that best reflects the underlying strength of consumer demand— rose by a significant 3% in the first half of 2026 . We currently have limited data for the third quarter of this year, including weak retail sales in July, but this decline reflects the fact that Amazon Prime Day took place in June, which lowered seasonally adjusted sales in July.
Excluding non-store sales, retail spending increased. Given the increase in wealth due to rising stock prices this year, I believe this should support consumption growth in the future. On the business side, data center plans point to continued rapid growth in business investments related to AI deployment and related technological upgrades.
High-tech investment continues to grow rapidly, and investment in software, which some feared could be stifled by AI's ability to write code, has risen close to its long-term historical average. Some would argue that these investments in a narrow sector, which is typically capital-intensive rather than labor-intensive, are deceptively supportive of GDP and should in some sense be excluded.
I disagree. Investment in AI is a legitimate part of GDP today, and I expect this technology to remain an important part of the economy after the peak of deployment, when AI becomes as integral to our lives as the internet. More broadly, one of the signals of continued growth in business spending was another increase in sentiment among purchasing managers in non-manufacturing firms in July to a level that I would also call confident.
The number of new orders for these firms, which make up the majority of businesses in the economy, continued to rise in July, and the index of supply problems continued to improve. Today we will receive the results of the August non-manufacturing sector survey. So, we'll see if this trend continues.
Combining different aspects of the economy, I expect real GDP to grow by just over 2% this year. This is a pretty respectable result, considering all the uncertainties I mentioned. Now let's move on to the labor market, which is also in satisfactory condition. Although there were signs of weakening labor demand relative to supply in the second half of 2025, these signs have disappeared.
Job creation , while somewhat erratic, has increased by an average of 60,000 per month this year as of July. This is close to, or even slightly above, estimates of what is needed to match slow labor force growth, largely due to much lower net immigration. Job growth has spread to most sectors of the economy in recent months, and the unemployment rate fell slightly in July to 4.1%, a historically low figure and just below the median long-term equilibrium rate of FOMC participants.
Layoffs and initial unemployment insurance claims are also at low levels. I expect similar figures tomorrow when we get the August employment report. Since economic activity and the labor market are in good condition , they are not a determining factor in setting the appropriate parameters of monetary policy.
However, they provide important background for the aspect of the forecast on which I am now focused— inflation and my assessment of the extent to which the current policy stance is conducive to returning inflation to 2%. More on that in a moment. Inflation is now well above the FOMC's 2% target and has been above that target for 5.5 years .
In July, prices based on the Personal Consumption Expenditure Index, or PCE inflation, rose 0.2%. And core prices, excluding food and energy, increased by 0.2%. While I was pleased to see such a monthly core inflation figure as it continued the trend of lower monthly readings we saw earlier this year, what caught my attention in the PCE report was that non-market services prices accounted for about half of the increase in core PCE prices.
As you probably know, I don't like to exclude certain categories from the PCE inflation estimate, but non-market services have always been a problem for me because they are estimated rather than real price changes. So, ignoring this factor, I believe that core inflation is showing better results than last month's figures indicate.
PCE prices are now up 3.7% over the past 12 months , and core PCE inflation is 3.3%. While it is important to consider these 12- month figures because of their real-world impact on businesses and consumers, they are not the best guide to understanding current inflation. I say this because, despite the uncertainty about the geopolitical factors that have driven up prices, I do not see high energy prices and tariffs as a significant source of ongoing inflationary pressure.
The data suggests that the price impact of tariffs is largely already factored into inflation, and my previous concern that higher energy prices would be passed on to the cost of many goods and services has not yet materialized. After these price shocks, to determine the current inflation trend, it is useful to focus on more recent data, such as how inflation has changed over the past three months over the year.
To smooth out the ongoing volatility in energy prices, I will focus on core inflation, excluding food and energy, which is usually a good indicator of future inflation. So, three-month core inflation as of July is 3.05%, still short of the FOMC's 2% target. Nevertheless, it is important to note the trend.
Three-month inflation has been steadily declining from 4.76% in February to 3.05% today . This is a significant change in the three-month inflation rate. This is a significant improvement. And the speed of this downward trajectory is encouraging. One factor that I expect will slightly reduce the rate of reported inflation is an upcoming change in the method by which the Department of Commerce estimates commissions paid to stock traders and related professionals .
This change in the estimate of non-market prices, which I expect in the near future, could lower 12- month PCE inflation by a few tenths of a percentage point. Given my comments on pricing non-market services, I view this as a welcome measurement adjustment. Now I see certain risks of rising inflation.
Energy prices have risen again and remain significantly higher than in early 2026, and the economy faces both pressure on the prices of technology goods related to the development of AI and the possibility of further tariff increases. But unlike the period of high inflation after the pandemic, wage growth, taking into account productivity gains, is broadly in line with expectations that inflation will continue to approach 2%.
I also take into account the fact that public expectations about future inflation may rise after a prolonged period of inflation above the FOMC target level. Fortunately, the Fed has a very good track record of meeting its commitments, and we do not see a significant increase in long-term inflation expectations.
But it should be recognized that this is a risk that the FOMC should be prepared to respond to if long-term expectations begin to rise and progress in the fight against inflation reverses. So, this brings me to my monetary policy outlook, which I announced at the beginning of this speech. Today, the labor market is stable, employment is close to its maximum sustainable level, and inflation is slowly but steadily moving towards the 2% mark.
Tomorrow we will get a new employment report and another inflation figure before the next FOMC meeting. I don't expect the employment data to be much different from what we've seen so far. Therefore, my decision on the appropriate policy stance will depend largely on what we learn about August inflation.
If progress towards our 2% goal continues, I am prepared to support keeping the policy rate at its current level. But if inflation turns out to be high, I will consider raising the rate. I believe that policy is currently only slightly constraining aggregate demand, and it may take a small acceleration in inflation to push me to support tighter policy.
If evidence emerges that progress towards 2% inflation has stalled in August, a small adjustment to our position would help restore it. In closing, I would like to say a few words about central bank communication, which I consider to be an integral part of the monetary policy process. I distinguish three types of communication that are important for monetary policy, and how I personally try to convey my views to the public.
First, I try to explain why I have taken my current political position. If I vote to keep rates unchanged, I explain how current economic conditions influenced my decision. I supported the FOMC's decision in late July to leave rates unchanged because the data at the time allowed me to assess the real economy as strong, and we were finally seeing hints of the beginning of disinflation.
So I was willing to be patient and see if this disinflation process would continue. The second way to communicate is to explain how future economic data will affect my future policy decisions. In short, I am trying to describe my reaction function. Thinking about future data, I'm saying that if, note that word, if the data turns out a certain way, then I will advocate setting policy accordingly.
The main thing here is that this is not a commitment to specific political action. This is a conditional statement about policy. A different economic outcome would make me advocate for different political actions. In my speech today, I outlined what would be needed to support a prolonged pause, as well as what would compel me to support a tougher policy.
By voicing my reaction function, consumers, businesses, and investors can better understand how I will vote on policies depending on the outcomes and factor this into my planning. Is this response function perfect? No. But years of working as a professional economist and politician have given me considerable knowledge about how policy should respond to shocks.
In that sense, I see myself as a home plate umpire in baseball. The pitcher tries to put the batter out of the game ( strikeout). The batter tries to hit the ball or earn the right to a base. Both want to play, but can't do so until they know the umpire's strike zone. The strike zone is a function of the umpire's reaction.
If the ball flies here, it's a strike. If the ball flies here, it's a pain. Players don't expect a perfect strike zone from an umpire. They just need to have a rough idea of its parameters and a guarantee that it won't change with each throw. Perfection is not necessary for a good game. So when it comes to my response function, I don't let perfection become the enemy of the good.
The third and final type of communication is forward guidance, which sets a path for the future interest rate that is essentially independent of new data. This type of communication is most appropriate when the discount rate is at the effective lower bound and additional communication is needed to manage market expectations.
For example, in September 2021, it was clear to me that we needed to raise the rate to combat accelerating inflation. Since this could only happen after the asset purchases were terminated, I supported the forward-looking indicators and clearly signaled the end of these purchases, paving the way for a rate hike in 2022.
With signals to the markets that a rate hike was imminent, market interest rates began to rise. By March 2022, the two-year Treasury note had risen by 200 basis points, although we had not yet moved the rate from the effective minimum . So, in this example, the leading indicators helped strengthen economic conditions long before we actually raised the rate.
However, it is important to remember that those actions were taken when the discount rate was close to zero. I agree with Chairman Worth that predictive indicators are not appropriate now or in many other situations. But when it's really necessary, I think they're worth using. I think I've said enough on this.
So, Howard, let's move on to your questions, which I'm sure will be better informed than most of my answers. Thank you, Chris. We'll move over here, on a chair. So, please . Thank you again for the detailed and, as always, provocative speech . Let me start by saying that this has increased the focus on the CPI, and I'm sure that forecasts for it are constantly fluctuating now.
Let's break this down a little more, if we can. The 2% inflation target is set based on the Personal Consumption Expenditures (PCE) index. This is slightly different from the CPI. So you need to convert the CPI to PCE. Tell us more about what you will pay attention to on September 11 when the CPI data is published to understand whether the situation will be bad or improving.
So, once you get the CPI and PPI data out every other day, you have a pretty good idea of what the PCE figure will be . Therefore, we can focus on these two indicators, as they actually indicate what will happen next. Now, I have been arguing for over a year that the impact of tariffs on the price level will run out and that by this summer we will see a rapid decline in inflation.
The energy price shock at the beginning of the year added some uncertainty. But if we go back to January 2025, core PCE inflation was around 2.3%. We weren't that far from the goal, were we ? So, if we get this reduction that I was talking about, almost a whole percentage point, we should see significantly lower numbers.
So I think that's what we're going to start seeing. As I said, energy prices have not yet affected other goods. Therefore, I expect that next month we will receive acceptable CPI and PPI figures. Now, I will be accused depending on individual data. It seems you've already started doing that. But what I'm trying to emphasize is that if you only look at the trend, you will always miss the tipping point.
Turning points are not reflected in the trend. That's the whole point. So when you approach what you consider to be a tipping point, you have to pay more attention to short-term data if you want to catch it. In my speech in July, I tried to argue that we may be at a tipping point on inflation. It could go up, but I thought it would potentially start to go down.
Two indicators have arrived , and they look exactly like this. I'm willing to sit, wait, be patient, and see if there's a third one. But if the situation changes, then know that it is time to act and raise the stakes. So, regarding the CPI, will the underlying figure matter compared to the overall one?
Well, definitely the underlying one, because the general index is usually too volatile to predict future inflation. This does not mean that we should ignore energy sources or food. I never said that. But from an inflation forecasting perspective, we try to take this into account, given the volatility of energy prices this year.
This is a great example of why it's worth looking beyond the overall index and focusing more on the underlying one. OK. So, without being too dependent on individual data, can you give a guideline for the three-month CPI and what level you think would tip you in one direction or the other? Yes. I'll just say that if the numbers are high, and what "high" is, I'll let you decide.
Then it becomes clear that two indicators are not enough. This has happened to us in the past. We would get soft summer data, and then inflation would start to rise again. For example, I got burned on this in 2024. So I don't want to give a specific number, but if we see signs of a decline in this three-month figure, which is currently 3.03%.
If we can reduce it to around 2.8%, that's good. Then it's time to start taking action. Just continue to hold your current positions. So, let's discuss for a second the change in PCE methodology, as well as the index that Chairman Powell mentioned in Jackson Hole last week, focusing on the share of the PCE consumer basket growing by more than 3%.
Isn't that right ? So, a) is this index successful? And b) what is the risk of acting in September on this CPI when your target, PCE, could be revised downwards two weeks after that? Yes, that's exactly what I mean . We all expect the revision to result in a reduction in this figure. So , if that's plus what actually happened with the data, you could see a significant drop in the core CPI.
So if it's 210, it's 33, then it's going to drop to about 31. And then, if you get decent data, it's going to drop below three on an annualized basis, and even lower on a three-month basis . Is n't that right? So I'm willing to take a chance and see, you know, I'm paraphrasing John Lennon here. Give disinflation a chance, okay?
And we can wait until the next meeting. I just don't see why we should do this. The mistake you might make is that we are indeed at a tipping point and disinflation is beginning, as we have long thought— at least I have long thought it would happen. You raise rates in a disinflationary environment. You are late, or you are too far ahead of events, or you are relying too much on the past.
That's why I say: look at the cost of waiting for one meeting. A 25 basis point increase in one meeting will not bring the CPI down to 2% now. Of course. So let's just, I think, it's risk management. You want to take a chance and see if disinflation continues, but I don't see much risk in that . Of course.
So, in July, when you were talking about this, it seemed like your position was leaning towards an increase in the near term. It seems like your position is shifting slightly towards Yes. Because that's exactly what I mean . In July, we saw about six months of growth in the core PCE index. Instead of decreasing, it was increasing.
So the trend was, "Oh, things look bad, get ready to act." But we got a soft report, and then the question was, "Can we wait one session to see if this continues?" And I felt like, "Yes, it was justified." We got another reasonable, soft report, even if, as I said, we exclude non-market services. this figure was somewhere around 0.12 so okay, maybe we'll see if we get another one like that so , and to make it clear to the audience: these non-market services, like commissions to brokers for portfolios, etc., depend on stock market prices.
This is not about supply and demand in the economy. And it also depends on the volumes. It's just like saying: you know, if you buy more shares, you're going to pay more, right? Their commissions, their total fees are increasing. So you're confusing price and quantity when you look at this. So I , you know, I applaud the efforts to somehow fix this thing.
It wasn't a big problem before, but for some reason over the last year it's become...I mean, these professional finance fees—it's almost all that growth in non-market services. So you wonder if you let one thing drive half of the PCE, and it's not even an actual measured price, right? You might want to just say: let's put this aside.
And I hate to do this, but this is one of those times where I think it's worth at least keeping an eye on it. Let me move on to a few other aspects of what you just said, regarding the inflation discussion. So, growth of 2% or more is good for this economy. This is above the long-term trend , right?
So, I think the question is, is this a non-inflationary type of growth, or is it stretching the output gap to the point where you feel like the underlying pressures in the economy are pointing towards higher inflation because we're stretching our productive capacity . Yes. I mean, if you increase your production capacity, the potential output increases.
So this isn't inflation, right? I mean, we always...it's not something new that the Fed discovered. The Fed and research staff have always done this . So when you take production growth, you look at the potential and then you say where you are relative to the potential. So if potential is growing and it is closer to actual, then the output gap, or we say excess demand, is not so bad.
Not so bad. So you can see disinflation even with pretty good growth. So, do you feel like the potential is growing now? I think so. We've seen this over the past few years. We saw growth increase. Productivity has increased for many reasons besides AI. This started before AI. AI will probably do this at some point in the future.
I think it's amazing technology. I watch my wife write code all day long. It's just incredible what she can do with it . What is her best program at the moment? What-what? What is her best program? I can't tell you. I don't want to commercially promote what my wife does. So, I'll probably get arrested.
But I just watch what she does with it, and it's really exciting to me —what she can do with coding and other things. So I really think that... I mean, I heard a joke recently that, to paraphrase Robert Solow, we see AI everywhere except in the financial statements, in the earnings. OK. Of course. You know, we think it will manifest itself someday, but it hasn't happened yet.
Another aspect: you mentioned that you don't consider the current monetary policy settings to be too restrictive . You and the chairman seem to be of the same opinion on this. Here's what he said at Jackson Hole . The current policy does not appear to be restrictive. This is a strong opinion that would seem to indicate that perhaps the stakes need to be raised.
Yes. I mean, I've talked about this before. There is a difference between financial conditions on Wall Street and Main Street. Mortgage rates aren't low, are they? Car loans—rates are also not low. Do average Americans really look at credit spreads and all the other rates on corporate bonds? They ask, "What does this get me?" I mean, I don't understand it.
So I've made this argument in the past: what looks like loose financial conditions is actually a reflection of stock market prices. I'm looking at macro data. This is what interests me. And if I see the housing market in decline, and new cars have become almost a luxury item, not a common purchase for the average family...
These are not soft financial conditions, you know, and most of the equity is not owned by the bottom half or even the bottom three-quarters of the population. They are concentrated mainly in the top 25 % of the income distribution. So, given such a differentiated outcome among households, do you think that the current level of policy could get us back to 2%?
Yes, okay. I think so. At least let's try and see. As I said, I'm not going to say "let's wait until next year." Mhm. But let's just wait and see if we get any improvement. Let me move on, if I may, to...I think it's pretty clear. Okay, fine. I hope so. In any case, bond markets, rising yields. Let me start by saying that I know you are not in the business of fiscal policy , but as a less informed to more informed taxpayer to taxpayer.
What do you think about the US national debt now? Because...and I want to provide a little context. Everyone in your position always says: you know, $40 trillion, 6% of debt to GDP, three trillion dollars a year is spent on interest now. This is not sustainable. " Unstable" is a very strong word, but it's also somewhat empty, because it raises the question: within what time frame, right?
So, are we on the brink of an abyss or not? And if not, where is she? You know, when it comes to fiscal policy, we have about a 6% nominal deficit, half of which is interest. I don't know the exact numbers, so I don't... Yes. But that means you have about a 3% structural deficit. You can't do this all the time.
You just can't . So it's not so much about the percentage, throw away the percentage. This is the structural part after deducting interest. It's as if you're simply spending more than you earn , fundamentally eliminating interest payments. According to most mathematical calculations, you can't do this long-term.
Does this mean you will fall into the abyss? Maybe not. What you can see is what we're seeing now - yields are starting to rise because people are saying, "Look, you need to pay me more to hold this debt." I'm not going to stop funding it. It just has to bring me more. And this is what I argued is likely to start happening.
So profitability will likely increase due to fiscal issues and AI competition for funds. Remember, when AI was first developing, they used their own internal resources. They didn't take anything from anyone. Now they compete with the US Treasury in the corporate bond markets. So I think that's a factor that's pushing yields up.
And the last thing that no one focuses on is interesting research. US Treasury bonds, as the reserve currency and the safest liquid asset in the world, received a premium in the form of higher prices and lower yields. There was interesting work by Anna Lustig from Stanford Business School and her colleagues on the disappearance of this prize.
Yes. Now it is negative. That's why. Yes. So that's another reason for yields, and I gave a speech in Iceland a couple of years ago about the neutral rate, and that was my biggest concern about the rise in neutral rates—that point where there's no longer a premium on safe, liquid U.S. Treasuries, and that makes me raise my estimate of the neutral rate, which means higher policy rates for any given level of inflation.
Maybe you're not as tough as you thought and all that. Yes. Yes. Yes. So, um, uh, about the math, let's talk about the math for a second. Uh, mathematically, how hard is it for the US to get out of debt? Well, it's not that difficult if you can reduce the structural deficit closer to zero. I mean, that was the best idea ever about taxes, right?
As I said, I'm just repeating that a 3% structural deficit is unsustainable. How to fix this—I don't have any advice for you, okay? This is not my job. It's Congress's job to figure out how to fix this. I'm just curious about how these lines intersect when looking at growth alone. Yes. I mean, first of all, this is nominal growth .
Remember, the debt-to- GDP ratio is debt to nominal GDP. And I, you know, the bad news of this argument is that you're doing it because of inflation, right? What did the US government do after World War II? They devalued a huge portion of the debt through inflation. This is not the best result. It doesn't make people richer.
You want real GDP growth. But you know, that's exactly what I'm saying. If your deficit is growing by 6% and growth is only 3%, with inflation at 2%, this ratio is increasing. It is still increasing. It still continues to grow. It's just arithmetic. It's just arithmetic. There is nothing political here.
It's just math. I mean, let's talk about profitability globally, because it seems like there is—and you hinted at it a little bit, but let's dig deeper. You know, there's some good news, right? Which seems to be the one that the Treasury Secretary and the Fed Chairman are leaning towards, that this is all a result of a sudden influx of investment ideas.
There is real competition for capital for productive purposes, which means there will be competition for the money that is available, and as a result, profitability will increase . The bad scenario is that the demographic challenges, the breakdown of the global order and the higher inflation that results from that, and then the fiscal deficits that are not just in the US but pretty much everywhere in the developed world right now—all of these things are accumulating, and it's going to be a difficult readjustment that's inevitable.
So, it doesn't look like the Fed will lose control of inflation yet. Inflation remains stable, but what do you think: is this good because people are investing money in the business, or has life simply become too expensive and we are driving ourselves into a dead end? Yes. Look, honestly, in any standard model of economic growth—without getting too bogged down— real interest rates depend on two or three key factors.
The first is population or labor force growth. Well, here the indicator is zero. This should reduce profitability, right? And not to raise it, right? If growth is significant, then you will see higher profitability because companies can afford to pay higher real rates. Their products or investments become more profitable, they can pay higher rates, and that's a good indicator of why real rates are rising.
The third factor is what I just said. There is an income from the convenience of owning debt, and it disappears. Well, that will raise the stakes. This is not very good news . This is, let's put it this way, bad news if you lose that convenience bonus. So, that's part of the problem, but I'm not convinced that's the whole story.
There are many other factors. And , of course, there is also a term risk premium. If you look at this growth, it's all a real risk premium, right? This means that investors are saying: I'm a little unsure about where the world is heading. I'm a little unsure about the dollar's status as a reserve currency.
Maybe I need to be paid a bonus. And this, again, is not a sign of anything good. But the growth factor certainly plays a role. Agree. So, partly good news, partly bad news. And what we could control is probably a bit on the bad news side, right? Solve some structural problems. Yes. If you fix some of them, you can make significant progress.
True. Let me ask you about the latest moves in the Treasury bond market. I think the Treasury Secretary and the Fed chairman got a good deal in Asheville at the G20 because of what's going on, as well as the Treasury's recent interventions on the yen and bond purchases. Did any of this surprise you ?
You know, what the Ministry of Finance does is the Ministry of Finance's business. Well, you know...I never believed, as an economist, not as a politician, that such short-term innovations yield much. But you know, if you want to implement them, that's Bess's right—whether he wants to do it or not. Of course.
Are there any implications for the Fed? Well, if you think these interventions had a very short-term impact on long-term profitability, then no, none. Of course. If they want to adjust something and it somehow works, then maybe there are some fixes in the solutions, that's good too. I have no problem with that .
So let's move on to what the chairman mentioned in Jackson Hole, that he prefers to get unfiltered views of the market. And if the Ministry of Finance is becoming more active in this, maybe this is a distortion in the market, right? So, this goes back to what he also mentioned . This brings us to the issue of communication.
Kind of a " hall of mirrors" problem, right? Are you seeing a pure market signal and an undistorted price, or are you in a situation where the Fed is talking to the markets, the markets are talking to the Fed, and you're not getting a truly objective view of the world? So is this a problem now? Are you in this cyclical world of the "hall of mirrors"?
Well, I'll give you an example to set the stage: as many of you know, I lift weights. Yes. And my wife is my powerlifting coach. Of course. This is true. Yes. And the first thing she told me when I started training was not to look in the mirror. A. I asked: why not? She said that if you start looking in the mirror, you worry more about how you look than what you do.
So don't look in the mirror. Focus on technique, do the exercise, and don't worry about how it looks. I'll tell you what it looks like. So it's like the "hall of mirrors" problem in communication. Just don't look in the mirror. And if you noticed in the speech, I said almost nothing about financial conditions, right?
I'm looking at macro data. Macrodani is not part of the "hall of mirrors". So if you are focused on your work and on truly important indicators, you can perceive the financial market as an indicator of certain processes. But ultimately , our mandate is, you know, price stability and full employment, not financial conditions.
So that's how I've always avoided it: I just look at the macroeconomic data . And that's why I just don't look in the mirror. So, former Deputy Chairman Rich Clare, I think, had the same explanation at one time a few years ago. He wrote about this and pointed out that it was not a problem because you can compare market data with survey data, econometric data, a lot of information , to see if they agree.
So, uh, in your talk today, you laid out very clearly what you call your response function. Um, uh, the chairman at Jackson Hole said, "I'm not doing it." Because it can't be perfect. Uh, you're using your baseball metaphor, uh, to say that, well, it doesn't have to be perfect. It just has to be, you know, generally parametric to outline broad boundaries, right?
So, what is the optimal way to do this? Yes. As I said, part of it is, you know, if you take any standard market-based macro model that you use for forecasting, you have to have a rule of thumb for how the Fed is going to react, otherwise you won't solve the model. You won't be able to make a prediction.
So, I think every forecasting firm on Wall Street has some kind of built-in reaction function. And there are many different reaction functions that you can use, but the main thing is—you want them to be consistent in how they react to things. Mhm. If inflation is rising, you will raise rates. If GDP growth is accelerating, look at inflation to see if it needs to be compensated.
If unemployment rises sharply, rates may have to be lowered. This is just economics 101. You're not giving any weird advice. That's what I mean by reaction. I simply use economic theory to tell myself what I should do as a central banker if unemployment rises above a long-term high, or if inflation starts to rise or fall.
But the exact number is sometimes where imperfection arises. I can't necessarily tell you what the right number is, but at least qualitatively I can give you a direction where things are going, right? Because I mean , it occurred to me that you're not just communicating with the financial markets, you're also communicating with the public, shaping their expectations.
So if we all act blindly, it's probably worse than if we had any information. Yes, I want to have at least something, as I said, it's the same as with the strike zone. She is not perfect. This is not true, and it varies from judge to judge. Of course. Of course. Of course. But the players just say, "Just tell me how it is." I don't care, as long as I know what it is, and then I'll figure it out.
So is the head, as you put it, now allowing the ideal to interfere with the good? Do you think? Well, I think that's what his statement said. You know, like, "I'm not going to say anything because it's too complicated and we can't do it." Of course. I mean, that's fine, but I just have a completely different perspective on it.
Of course. So, let's talk about communication, uh, in a broader context. Because there was, uh, and I think you can look at it from two perspectives: you know, more than Kevin Warsh, more than the head, some say there's too much noise, it's too confusing: one says one thing, the other says another .
However, if you look back at the 80s and 90s , there were really, uh, significant political battles in the US over the transparency and secrecy of the Fed. There were, uh , bills, there were attempts to open up the use of FOIA requests, and since then the trend has been to say more, not less, right?
Quite consistently. Uh , so are we at a point now where you think this drive for, uh, transparency and more information rather than less has reached a point of diminishing returns, or is that a problem? Again, I looked at the academic literature of the 80s and 90s, that's where it all started. Yes. It's like: why do you want to surprise people?
What is the benefit of this? I used this example for years when I taught macroeconomics . If you worked for the Department of Transportation and were going to close three lanes of a highway for construction, right? You can do two things in your communication. You can say nothing and let people just drive into this construction zone and get into trouble.
Or you can put up signs in advance: " Look, construction ahead." " Look, here are the detours." Which of these two worlds do you want to live in? I think we would all prefer to have information in advance to make better decisions. So this is my perspective on communication and delivery—I don't want to call it predictive benchmarks, but to give some idea of what's ahead.
So that you can make any decisions that are important to you. So, I mean, if we expect this from the state department of transportation, then I think it's only appropriate to expect this from the central bank. True. Tell me, do you think that in this era, when suspicion is the default mood , it's a good idea to step back and say, "Listen, we'll be better off this way." " Trust us if you'll just let us, you know, stay behind schedule." Well, that was the old model: just, you know, never explain, never apologize.
True? Oh, good luck in your return to the other world. It just doesn't work. And this is not the best model for thinking about economic well-being . That's why I try to communicate as best I can so that people can make the most informed decisions. Surprising people has never been my goal when I think about things.
Of course, that doesn't mean you won't be surprised. Sometimes it's just inevitable, but my goal is not to say, " Look, whatever I do, it's going to be a surprise." Uh, let me summarize. We're running out of time, we're at the end, but on the working groups: The Federal Reserve, Chairman Warsh announced five working groups.
Communications, balance, AI and productivity, uh, inflationary model, and I forget the fifth. Yes. Yes. So, which of these, you know, many of these issues have been discussed a lot . Data was the fifth question. Many of them are quite new. You know, AI and productivity—it's like it's coming into view for the first time, in such a practical way.
Uh, which one do you think has the most " low-hanging fruit " in terms of actionable recommendations from various committees that the FOMC could take into account so that in six months or a year people will say, "Yes, this is a better way to do things." Yes. I mean the communications group, we've talked about communications throughout my 17 years at the Fed, and as you just pointed out, it goes back to the 90s.
I mean. you're making minor improvements, but we just did a full review of the structure where we talked about communications, and you know , people have very different views on how to communicate and what's right, just take the scenario analysis that Chairman Bernanke pushed for last year, right? There was resistance from people, I appreciated it to a certain extent, but the resistance was quite strong , so on that, I'm not sure that much new will come out of it , on the balance, in my own opinion, that's where you're going to have the most differences of opinion on how to proceed.
If you want to reduce the demand for reserves but remain with sufficient reserves, I don't mind. But if you want to say that we should move to deficit reserves, I would be strongly against that ; Regarding private data, great, we use private data all the time. Um, what worries me is that if you start making decisions based on private data that is not in the public domain, then the public will pay, of course, the market will pay too much attention to your words, thinking that there is something there that you know and I don't.
You also risk losing trust . If I can't verify what you're saying with data, then I'm going to have a trust issue. This, this is not good for AA1. Who knows? I mean, that's still a long way off, and we're not necessarily designing monetary policy two years ahead right now , are we? Epic. Yes. And the inflation issue may be what's actually, honestly, the most interesting.
I mean, I don't know. I know the people on this committee, they have very different views. So, I wonder what they'll come up with, but if they have some new inflation model that will help me predict better, give it to me. I am willing to try to make it better with open arms. Yes. Good. Well, that's where we end.
Thank you very much, Chris, for coming, and thank you for watching and listening to us.
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