Austan Goolsbee on the 'Golden Path' to a Soft Landing

paying attention to. It had been coming down, it's jumped back up, and then it just does raise this whole question of like is the economy really sort of the celery into a nice smooth, soft landing or are we still really hot?

end sell off. Is it the higher for a longer stance that we saw from the Federal Reserve a couple of weeks ago, is it worries over supply, could be anything, really, right.

nineteen Goldilock's territory. Like, we may get that, but it does not look like what the bond market.

Can we continue to walk down it? Can we continue to see disinflation with unemployment as low as it is.

able to do it. And my recent speech was less whether the golden path is possible and more like Tracy said, it wasn't really why this time is different. But I know that's a loaded term. Argument, that's a loaded term. I was just making the argument why the intuition that going back and looking what things were like the last time,

the unemployment way was three point seven percent. That's not a great that's not that accurate of a measure at times when there are supply shocks bumping around, at times when expectations are not unhinged like they were the last time inflation got out of control in the nineteen seventies, and because of those differences, just be cautious about using lessons from past periods to be analyzing what's happening right now. And you see it every month when the data come out.

You'll see analysts look and say, ooh, the jolts ticked up. That must mean we're overheating. And implicit in that is a logic that the last time the unemployment rate was low and inflation was high, it meant we were overheating. So I just want to be careful of using historical analogies that might not be totally appropriate.

We've spoken about that before. But Austin, maybe before we move on, can you just give us give us a little snapshot of the speech that you gave, because you had this great series of charts in there which kind of pointed out I know this time is different is not a preferred term, but you kind of pointed out that, well, things have already been different compared to what traditional economic theory would have suggested.

grandmother and I knew people that bought stocks. They lost everything when the market crashed. And that idea that one historical episode could live with you for sixty seventy years and influence your behavior, even when it's not necessarily the perfect lesson. There's a little element of that looking back to the Vocar episode or to past history and assuming that there's a let's call it a stable Phillips curve

or something like that. So point one is when you have supply shocks going on negative or positive the normal relationship between the contemporaneous economic conditions and the future inflation, those relationships break down or they bend a lot. And if you take kind of a traditional va are in the academic language set up in which you just look at the historical patterns of when they have monetary policy changes and then just look over the average what happens

in the quarters and the years that follow. I put that up on a chart and it showed that you usually have long legs to monetary policy. When they take the monetary actions, it's really two years plus before you get the full impact on the economy, and it leads to big drops in GDP. And when inflation starts to drop, it drops a lot, and it only starts dropping after

the recession has begun. That's the normal historical pattern. And if you look now, the same logic that says the FED will not be able to pull off the golden path because past history shows that if you want to get inflation down a lot, you must have a serious trade off with economic performance. The last six months are impossible. Okay, inflation has come down a lot, Employment really went up,

didn't go down, and we haven't had any recession. So if you looked at that graph, it's kind of the predicted from nine months ago from what the FED has done over the last year or year and a half. What we've experienced looks nothing like the historical record. So, Teresa, you can hear me resisting a little bit using the

phrase this time. I get it. It's just when supply shocks are going on, there's no reason to think that the historical relationship would be holding, and you would run a danger of overshooting if you pay too close attention to those kind of metrics. If you're looking at metrics that say we must get the unemployment rate back to four and a half percent, you're going to overshoot if there are positive supply shocks or if the supply chain

is healing. And I do think that's extremely relevant on any month of data separate from just individual months are noisy. I think this broader philosophical almost issue that the past is not that great of a guide when you got weird things happening, and the COVID business cycle was maybe the weirdest of all. We just need to keep that in mind as we're deliberating and thinking this through.

most measure is still some heat. The story is, and I think most economists have come around to it, most of the improvement that we've seen in realized disinflation is due to supply side healing. Is there more supply side healing?

than than the what the Volker moment was. On the supply side, I talked to a lot of business contacts in the seventh District, you know, which is part of the Midwest. It definitely has been substantial improvement on a lot of supply chain. I think most measures of supply chain say there's still some to come, and it's important and remember when the supply chain fixes, it still works its way through the economy. It's still going to take some time to work its way through the inflation rate.

It's not going to be an instant adjustment of inflation when the supply shocks. When the supply socks hit, So I do think there's still some to come. And if you go down in the weeds, if you take like the New York Fed's Supply Chain Index, the New York Fed uses historical data to make a prediction of what are going to be the impacts on inflation, and their index shows that we've mostly returned to where we were before COVID, but that there's still some material amount of

dropping inflation that will still come through that channel. So I think both the anecdotes and the data tell you that that's been improving. Now I feel okay because I ident what I'm about to say. I've been saying for a long time that I put on the board here's what we're going to need to see to believe that

we are still on the golden path. So I'm not after the fact looking back and saying, oh, it was a B and C. I said before the first thing that has to happen loosely, before COVID, we had two percent inflation or even less on a stable basis, and that was coming. It wasn't that all inflation was at

a two percent level. It's that goods were minus one percent a year on average, housing was growing about three or even three and a half percent per year on average, and services not counting housing were two and a half to three. And that combination is how we were getting to one point eight. So we even have a little bit of wiggle room. Any one component could be a little higher than it was before and we could still get to two percent. Definitely. What needed to happen first

was goods prices needed to come down. That's the thing that went completely bonkers during the COVID times because it was the first downturn ever where demand for durable goods went up and demand for going to the dentist went down, and that kind of tells you everything you need to know about why this cycle is extremely unusual. Goods prices

have largely returned to where they were pre COVID. Then the second thing that has to happen is housing inflation needs to come down, and we believe that it would because of this mechanical part that as market rents change, that's going to slowly filter through the CPI type measures of housing, and you have seen that begin and that needs to continue. The issue of non housing services, we've

always known that's the most persistent part of inflation. It doesn't need to get down to two percent for us to hit the target. It wasn't at two percent before COVID, and so in the short to medium run, the critical component to whether we can stay on the golden path is actually about housing because that's the thing that's supposed to come down and needs to keep coming down. There are I do have. Are they concerns? They're probably concerns.

They're not yet elevated to the level of fears that the normal dynamics on residential house prices have had some bumps with this aspect that there are a bunch of people locked in because rates were so low for a long time. There are a bunch of people with three percent mortgages who are resisting putting their house on the market.

So the supply of existing homes is not what you might normally think, and that's pushed prices the other way, and eventually that could slow the decline of inflation on the CPI style measures of residential inflation. This is the long wind up to say I think the supply chain mostly goes through goods and goods inflation. We've seen the progress that we wanted, So the danger on the goods side, of course, is now with oil prices going up. We know what happens when you get negative supply shocks. We

just live through that. So that's an area of concern. And then the second is about labor supply. So there was a big negative shock to the supply of labor. I think that explains part of the persistence and the rise of inflation in other components. But that is also easy. If you look at the job market or if you talk to businesses, it's not fully back to where it was before, but there's been dramatic improvement in the ability

to hire and retain new workers. You've seen labor supply, labor force participation of women hitting record levels, labor supply of people of workers with disabilities hitting record levels, both suggesting maybe some of the increased flexibility in the workplace is going to operate a bit like a positive supply shock, so that's kind of promising, and immigration levels returning to something like what the were before also a positive impact

on labor supply. So on the real side, I still feel like nothing has happened so far that is convincing evidence that we're off the golden path. And a lot of the markers that we've been hitting are the things that months ago I was saying we would have to hit these markers to believe that this thing is still possible, and so far we've been hitting those.

the nineteen seventies. And the crucial thing to see that really came out of a lot of the academic literature on inflation, is that if expectations remain anchored at say two percent, you outline an inflation target of two percent. If it is credible and people believe that the FED will do whatever it takes to get to the target, that is a powerful draw bringing actual inflation down if

it's above two percent. So when they're having negotiations or thinking about price increases, what the private market participants believe is going to happen overall will heavily influence wage and price determinations right now. And if you look at expectations in the nineteen seventies, they clearly became massively unhinged. They would ratchet up with each experience of rising inflation. The measures of expectations would rise and not come back down.

So you know, if inflation was at two and jumps to six, the expectations, long term inflation expectations would rise, let's say, to three and a half. And then when inflation comes down, it doesn't go back to two, it goes back to three and a half. And then when you get your next bout of inflation, the long run expectations jump up to five and a half. And so you get this ratchet effect. And I showed the graph.

It became totally unhinged in the seventies and the experience of the seventies with expectations are what made the Voker experience so difficult and so painful. Now you probably know Paul Voker was a great mentor of mine. I worked with him through the financial crisis, and he's personal hero. And I would ask him all the time about the Voker experience and what was it like in the seventies, and was it hard to convince the FOMC to go along?

And you know, what did you think when and interest rates we're twenty percent and things like that, and that experience, the scarring experience of trying to fight inflation when expectations are unhinged, that should be on everyone's mind. And that looks nothing like what happened in twenty one and twenty two. If you plot market based measures of expectations or survey based measures, they go up modestly and they return and they are now they remain very well anchored at something

close to the target rate. And that is a sign of FED credibility, and that is crucial. It's absolutely crucial that the FED maintain that credibility because if they don't and the thing becomes unanchored, it becomes dramatically harder to achieve a Golden Path like outcome. If you just go look, and partly I went through some of the theory, We've got two economists at the Chicago FED who kind of redid the traditional model but incorporated market based expectations of

several of the variables. In the normal analysis, there is no role for future expectations of the unemployment rate, of the inflation rate, at GDP growth. There is only the backward looking monetary policy happened, how long does it take to have an impact? So what they did is go take some of these expectations measures and put them in a normal analysis, and what they find is that these

measures of future expectations do matter. And if you do a model like that, it says that the impact of monetary policy occurs much more quickly then in the historical In a way, it's saying something like, the market expected conditions financial conditions to tighten well before the FED actually started raising rates, and so the clock kind of begins when the market believes it, not when they actually do it. If you think that, then in a way, just go

look at the market expectations. Now, the market expects that the FED is only going to raise rates a little bit more, that it's going to keep them a little bit higher for some time, but that that's going to work the market expectations of inflation, or that it's going to in relatively in the relatively near future get back to target and do so without a recession. And it's that that it's in the data is the thing that's

driving this, this model and every other model. So we can argue about the details of anyone model, but the fundamental fact that the market expectations are that we're going to pull it off makes it easier to pull it off. Because of that expectations, channel got it.

we can get there. The one thing that seems unambiguously different between right now and twenty nineteen is rates, And so I guess I'll start with a sort of first question. When you look at the yield curve right now and you see rates shooting up higher and higher, I guess we're still in inversion, but flat all that coming out of inversion. Can you square that story with a golden path story? Is that a market that is consistent with

a golden path? Or do you see tension between what a golden path looks like to you and what market participants are pricing it in terms of the trajectory of rates going out.

It's an interesting racle Joe to say, but the rates were a lot lower than if anything, I would have thought that would make you more optimistic that inflation would come down, because on top of if we could get some of the conditions to look like what they were before, that those higher rates, higher real rates, would would exert a little restraint on things. I guess one answer to the question would be me personally, what do I think? And one answer the question is what does the market think?

And I guess the answer to both of those is both the market and I think that it's still possible. So the market has decided that the SEP higher for longer is accurate. And it's yet another in the series of the market realizing the FED is serious and there we're not bs ing, you know when we when we say what we're going to do, but that that hasn't led them to predict a recession. The you know, the

forecast of GDP are for not a recession. So I still feel like this is our goal and it's still possible. My concerns are less that we're misinterpreting the whether the economy is overheating or undershooting, overcooling, whatever's the opposite of overheating. My concerns are more past soft landings that were easier than the Golden Path version have been derailed, like nineteen ninety two thousand and one. They were derailed by external shocks, and we got a lot of external shocks that we're

going to have to monitor. We got the price of fuel rising pretty significantly. You've got potential slow down in China that could do damage to the rest of the world's growth rate. We didn't have a government shutdown, we got auto strikes, we got the prospects of government shutdown maybe in November, and things like that. If you look at past history, they have had negative impacts if they last long enough. So that's kind of where my head is about whether we could pull it off or not.

to respond to external shocks. Of course, so if you take a step back in history, the thing that's oddest is why were we at zero for so long? It's not why do we have positive interest rates now? If you compare to six months ago. Six months ago we were trying to figure out is the collapse of Silicon

Valley Bank, First Republic? Are these indicators that we're about to have a financial crisis or some kind of a credit crunch a la the savings and loan crisis or those kind of things, and there was a much more pessimistic view about whether we're going to have a recession and is there going to be a significant slowdown. I do think compared to that, if you think there's less chance of recession and a deep recession would be a

low rate environment. We've seen that over and over. So if you take away the prospects of a financial collapse and a back to zero for a long time kind of environment, the long rates are going to go up. So in that sense, that part is not a puzzle. I think the puzzle that people are trying to put together is, well, why did it happen in the last

three weeks and what was it that got announced? Like the SEP came out and it was a little different than the market expectation, It was a little different than the previous SEP. But was it so different that it would lead to a material change in a three week period. That part's still a puzzle. But if you take a six month perspective, in a way, I don't think it's

that much of a puzzle. It's clear that the long rates coming up is what you'd expect, and getting back to what I consider a more normal environment where we're not hitting the zero lower bound, we don't have seriously negative real interest rates for an extended period of time. We can argue about what that level is, but it's not a surprise that we would be going back to something like that.

duration at the moment. It does feel like the sort of financial markets channel is a potential path where we could maybe get a little bit of trouble. Maybe the bond market sell off causes financial conditions to tighten too much. Is that something that you're worried about and around you know what level would that be a concern for you.

you've seen that spiral into credit crunch. But as I always say, the you know, it's a very Midwestern thing that we're gonna deal with the problems. It doesn't matter what the conditions are, you go get the job done. You know, out in Chicago there is no bad weather. There is only bad clothing. And we're gonna put on a parka if we need to put on a parka.

So if there is a credit crunch, if those things materially deteriorate in a way that we haven't seen but feared seeing over the last six months, we will adjust. And we've got to think about it. We by law, we have a dual mandate. As you know, we're gonna stabilize prices and maximize employment, and all eyes are on getting inflation down. We must get inflation down. That's the part of our mandate that we have not been hitting. We've been making quite substantial progress on getting the inflation

rate back down to where we want it. And for all of the for all of the attention and heat about whether inflation would stall out at three and a half, at three, I would just point out, if you take the three months performance of inflation, we already blew through

three percent. We're already getting it down more. And if we start to see weakness on the other side of the mandate coming from financial conditions getting tighter and that leading to more traditional business cycle dynamics where the interest rates sensitive sectors like durable goods and autos and stuff like that slows, we will adjust to it. You know. That's the that's the why the so far chat GPT

is not going to replace the FOMC. The FOMC is a collection of a lot of different people, have a lot of different views on the economy, and that's the best thing we got going.

That's the wrong way to do it. I outlined Traditionally, the impact of monetary policy has a substantial lag, and inflation comes down after a big increases in rates, but the inflation comes down only after the recession begins. So what we have already experienced over the last six months is extremely unusual by historical standards, because the inflation came down before or slash without slow down. On the economic side, any central banks got to think through are these supply

shocks or demand shocks? They've got to think through the dynamics, by which I mean, what have we already done and how much is of that is still to come? How much of that impact is is still to come, and we don't want to overshoot, and that's a balancing act, and we got to strike that balancing act. And that's

kind of the root of the discussion. But I definitely don't want to tie my hands or anybody's hands on the FOMC about hypotheticals of like, well, would you vote for twenty five basis points up or down or this if the inflation rate came in at exactly this and it was matched to the unemployment rate? Of why, Because there's a lot of art as well as a lot of science to monetary policy, and you just got to monitor the conditions. That's why I always say I'm in

the coalition of the data dogs. You know, our thing is go sniff, and if you don't know what's happening, go sniff some more. That's the that's the root of the school of thought where I come from.

maintaining low employment via cutting. What would you need to see to get into that frame?

to get any cuts anytime soon. But this is like a sort of central question the market trying to figure out would it take a recession to get rate coaches or could we just.

comes down is a form of tightening. The real rate is getting tighter as that happens, and the if your target is something about real rates and a level of restrictiveness that matches your your mandate, The abstract answer to your question of when is it time to cut rates is when the dual mandate conditions suggest that cutting rates

is necessary to maintain your to maintain your mandate. So if you observe big increases in unemployment, big drops in GDP, what looks like a recession in past business cycles, those can come on quite suddenly. You know, they can come on rapidly, they say of the unemployment rate. Usually it rises like a rocket, it goes down like a feather.

So if you start to see rocketing higher unemployment rates while the inflation target remains tame, then that's a sign that the dual mandate, the other part of the dual mandate you got to think about.

forever if you don't. If you do not get us back to inflation, we will get inflation back to the target. So I don't view the no landing scenario as that that's not a foremost risk in my mind.

are going up. So I could not, for the life of me understand why did they just hedge? Why if you know you have these vulnerabilities, just hedge it? And the answer if you go through the bar report, they did hedge. But then they thought that the FED wouldn't stick it out, and that they would make more money if they got rid of the hedges, and so they got rid of them. And that's yet another in the long line of lessons. Don't bet against the FED. That's not a good night.

long time to come. And I know you don't you know, I understand the whole not commenting on fiscal policy in terms of giving just about to say that, I know, I know, we all know that. We all know that part. But from a sort from a FED standpoint, it is your job to you know, as you say, do the Congress gives you that job? Does it make it harder? And on a sustained basis?

I mean that there's a whole argument among the fiscal policy minded economists about things like measurement and is what's the proper measure of debt and what's the proper measure of fiscal policy? And from a GDP kind of impulse perspective, isn't it all about delta from last year? So if the deficit is big, but it's smaller than it was last year, is that does that mean the fiscal impulse is going down? I don't, I studiously don't have an opinion about fiscal policy. I just tell you we're going

to watch the conditions and on the ground. If whatever external, internal, or other shocks lead inflation to go up or unemployment to go up, then that's the kind of stuff that we're going to be factoring into our decisions for sure.

rates kind of filter through. That said, I wonder if there's sort of a tension between forward guidance and crushing, crushing inflation expectations while maintaining the flexibility that the Fed is clearly trying to hold on too, right, because Austin was very adamant about well, you know, we don't want to bind ourselves to any one particular path, which all makes sense from their perspective, But if the big wild card is inflation expectations, then I don't know, it feels

like there's a tension there.

little bit. Why do we just see the sustained day after day pressure And you could tell a story kind of like Austin has, which is that, well, that's the the market saying the Fed is going to do its job right. So that's I guess there's a positive spin but why does the Fed need to keep rates? Why is the market anticipating that the Fed will need to keep rates as high as they are just to get

back to macro conditions? Like Lisa a few years ago, I sort of feel like the answer must on some level have to do with the big a shift in fiscal policy. But I'm not really sure. But like, you know, it's great that, it's great that on low employment, it's great if inflation gets back to two percent, But I don't want to pay eight percent for a mortgage, you know, Like, why do I didn't need to pay eight percent for mortgage in twenty nineteen for these conditions.

percent of it? Is it fifty percent of it? And what is it actually going to take to get to, you know, the end of the golden path.

our discord People Talking There twenty four to seven. There's gonna be a lot of conversation in there about monetary policy in this one discord dot gg slash online.