Last September I talked about how Janet Yellen was more afraid of a boom than a bust. Basically, she is scared that the US economy is stronger than many think and that the global economy’s weakness won’t persist and so we’ll start to see all of this translate into a stronger overall picture on the other side. I can’t say that I disagree. After all, if oil prices and China ever stabilize then inflation comparisons will start to look high and the US economy could start to look quite strong.
I wanted to touch on something that she said in the press conference because this was an interesting insight into her thinking. She said:
I think it’s a myth that expansions die of old age. I do not think that they die of old age. So the fact that this has been quite a long expansion doesn’t lead me to believe that it’s one that has, that its days are numbered. But the economy does get hit by shocks, and they were both positive shocks and negative shocks.
This is interesting because Yellen is essentially saying that the economy isn’t cyclical. This is a very appealing framework in my opinion. What she’s saying is that the economy moves in more or less stable trends and then gets shocked at times by something. Another way of saying this is that economic booms don’t die of old age, they die of excess. That is, it’s not the bust we should fear because busts don’t come from nowhere. They usually come from booms. And those busts can have devastating long-term impacts.
So, Yellen is trying to get policy back to a point where she doesn’t feel like she’s behind the curve in the case of a boom. She’s not worried about causing a bust because she doesn’t see how there can be a bust when there’s been no boom. And so it’s the boom she’s worried about. Given recent experience with the financial crisis she has good reason to be concerned. And given the poor record of Central Bank predictions, the rest of us probably have good reason to be concerned as well given our incessant policy focus on every action of the Central Bank.