The document discusses why monetary policy has become less effective at stimulating growth and inflation. A decade of unprecedented monetary easing by central banks has led to disappointing economic outcomes, with unsatisfactory growth, excess capacity, and below-target inflation. Several factors have weakened the transmission of monetary policy, including less responsive consumption and investment to low interest rates, rising asset prices mainly benefiting wealthy groups less likely to spend, and unchanging inflation expectations. Further, when all major central banks ease simultaneously, none benefits from a weaker currency. Policy errors have also damaged central bank credibility over time. The balance has tipped toward monetary policy impotency, as obstacles now outweigh the potency of central bank tools.

1. Why monetary policy
doesn’t work very well
Larry Hatheway
Jackson Hole Economics
larry@jheconomics.com

2. Overview
Has monetary policy reached its limits?
A decade of unprecedented easing, yet disappointing outcomes
 Unsatisfactory growth, excess global capacity
 Below-target inflation
Why is monetary policy not working very well?
 Monetary policy transmission channels are less effective:
• Consumption & investment are less responsive to low (negative) real interest rates
• Rising asset prices mostly benefit the few & those less willing to spend
• Money supply has grown, but so has money demand
• Inflation expectations have not responded
• When all central banks ease, none benefits from a weaker currency
• Policy errors have impaired central bank credibility
What is the answer?
 Take action to restore central bank credibility
 In extremis, coordinate monetary & fiscal policy
Source: JHE

3. Central banks have pushed down interest rates
$17trn of bonds with negative interest rates (Q3 2019)
0
1
2
3
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8
Americas
Austria
Sweden
Belgium
Italy
Holland
Other
Spain
OtherEurope
Germany
France
Japan
Stock of negative yielding debt, $ trn
Source: Bloomberg

4. Central banks unable to boost inflation expectations
UK an outlier due to Bexit-related sterling weakness
Source: Bloomberg, JHE
UK
USA
Eurozone
Japan

5. Monetary policy frustrated by adverse shocks
Trade wars have taken their toll on manufacturing & trade
Source: Haver, Bloomberg, JHE
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ISM Export Orders ISM Manufacturing

6. Easy money has helped balance sheet repair
Household net worth has recovered from the great recession a decade ago
Source: Federal Reserve, JHE
 US household assets
 US household liabilities

7. WHATCAN
CENTRALBANKS
STILLACHIEVE?

8. This is how monetary policy is supposed to work
How monetary policy impacts the economy, in theory
Source: JHE
Central bank
cuts rates
Savings falls,
investment
rises
Currency
depreciates,
net exports
improve
Asset prices
rise, higher
wealth
boosts
demand
Inflation and
inflation
expectations
rise
#1
#2
#3
#4
#5

9. Why monetary policy is now less effective
The post crisis paradigm
Source: JHE
Central bank
cuts rates, uses
QE
Balance sheet
repair &
uncertainty
diminish impact
on demand
Other central
banks ease,
currency does
not depreciate
Asset prices
rise, but skewed
wealth
distribution
limits demand
impact
Inflation barely
budges
#1
#2
#3
#4
#5

10. Central bankers are partly to blame
Credibility matters…at times it has been squandered
Source: JHE
- Credible, Committed
- Early to explore unorthodox policies
- Forecast errors
- Independence under assault
- Poor communication: ‘Hear, but don’t listen’
- Policy error: Hiked rates in GFC, and in 2011
- Divided decision-making & messaging
- Weimar legacy undermines credibility
- Policy error: Hesitant response in 1990s
- Policy error: Hiked rates in 2001
- Burdened by deflation experience

11. The balance has tipped toward impotency
Obstacles now outweigh the efficacy of the tools
Source: JHE
Tools Obstacles