Nouriel Roubini draws our attention to a speech given by Tim Geithner (head of the NY Fed) yesterday. Roubini argues that this speech contained an assessment of the degree to which asset prices should be a factor in the conduct of monetary policy that was subtly but significantly different from the views offered by Greenspan and Bernanke over the past few years. In particular, Roubini argues, Geithner distinctly sends the message (though not in so many words – in many, many more, in fact) that rapid rises in asset prices may indeed be cause for concern by the central bank, and may require policy action.
Geithner’s concluding lines nicely summarize the most important points that he made in this speech:
Asset prices probably matter more than they once did, but what that means for monetary policy necessarily depends on the circumstances.
Perhaps it makes sense to conclude with the more general observation that changes in the size of balance sheets increase the importance of sustaining the credibility of monetary policy, because they increase the costs of a loss of credibility or a negative shock to credibility. We live with considerable uncertainty about the sustainability of the pattern of relatively low risk premia and reduction in the cost of insurance against future macroeconomic and financial volatility.
I agree with Roubini that these two observations – that we currently have a pattern of unusually low risk premia in asset prices (read: certain asset prices are inexplicably high given the underlying fundamentals), and that the central bank will need to take this into account to an increasing degree than it has historically – are noteworthy from a member of the Fed’s leadership.
However, as Geithner points out, we still have a lot of work to do to get a better understanding of the role that asset prices play in the broader economy. So it remains a very open question exactly how these thoughts will translate into monetary policy over the coming years.